Faced With Another Scandal, Is Facebook, Inc. Stock a Buy?

Facebook stock - Faced With Another Scandal, Is Facebook, Inc. Stock a Buy?

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Facebook, Inc. (NASDAQ:FB) is taking more fire for its involvement in a political controversy over the weekend. Despite the drama, Facebook stock has continued to edge higher — it’s up 5% year-to-date.

The latest blow on the political front comes from Cambridge Analytica. This pro-Trump data firm allegedly misused data to swing voters toward Trump. With great power comes great responsibility.

So far, Facebook has not proven trustworthy of protecting its users from hateful or manipulative content or keeping its users’ data sufficiently safe. While users have given Facebook a pass for years, at some point, they’ll grow tired of the scandals. As it is, Facebook is anticipating a decline in usage among teenagers this year.

That’s an ominous development going forward.

On the plus side, Facebook stock has plenty of compelling positives. The stock is looking surprisingly cheap as of late. It’s gaining share on its chief rival in the advertising market. And that market has plenty of upside left.

FB Stock Cons

Cambridge Analytica Scandal: Facebook is under fire for yet another scandal related to the 2016 vote. The company now has issues related to Cambridge Analytica, a company that was involved in promoting Donald Trump ahead of the election. Reports suggest Cambridge gained access to user data inappropriately. The United Kingdom was already taken action. They are investigating both Facebook and Cambridge for allegedly misusing data harvested from 50 million profiles.

Stateside, Adam Schiff, chief Democrat on the House Intelligence Committee, is demanding answers about how Facebook ended up letting user data slip into the hands of Russia-linked operatives. The Massachusetts attorney general has also announced an investigation. Regardless of what the U.S. and U.K.’s investigations discover, this is another political scandal for a company that could ill afford one. The cost for Facebook to police its platform keeps rising, along with its legal bills. Additionally, its reputation keeps getting further damaged.

2017 – A Hard One: While Facebook continues to deliver sparkling financial results, it’s having other problems. As Zuckerburg himself said, it was a challenging year: “Twenty-seventeen was a strong year for Facebook, but it was also a hard one. In 2018, we’re focused on making sure Facebook isn’t just fun to use, but also good for people’s wellbeing and for society.”

That last bit will be a challenge. Facebook faces the need to make money and please its investors, but also keep users happy. Unfortunately, many of the most dangerous ads and content — be it fake news, cryptocurrency scams or what not — is the content that pays high ad rates or goes viral. Arguably, Facebook was too lax in what it allowed on its platform. Tightening its standards should make for a more pleasant user experience, but potentially come at quite a hit to the company’s margins.

Zuckerburg Selling: Mark Zuckerburg announced last fall that he would be selling between 35 million and 75 million shares of FB stock over the next 18 months. This, in order to fund his charitable activities. That’s a ton of stock. Last year, he sold just $1 billion in Facebook stock, but he’s ramped up his sales in 2018. He unloaded $357 million in Facebook stock in February alone.

Now, to be fair, executives sometimes have good reasons for selling. It’s dangerous to have most of your fortune tied up in one company, so diversification is a valid cause to sell stock. And sometimes founders have some other big vision that requires a great deal of capital. For example, Jeff Bezos is selling Amazon.com, Inc (NASDAQ:AMZN) stock to fund space exploration. In general, though, executives sell their stock more quickly when it is richly valued. It’s a warning sign.

FB Stock Pros

Facebook, Inc.’s (FB) Politics Are Bad for Business

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Relatively Cheap: For a tech titan that is growing as quickly as Facebook, the stock really isn’t that expensive. The company is at 29x trailing earnings, and 21x forward. That’s very reasonable for a company that analysts expect will grow earnings 22% this year, and 27% compounded annually over the next five years.

Outside of a bear market, you’ll almost get a high-quality fast growing company in the teens. However, a 21x forward PE is pretty compelling for this sort of stock given the high valuation ratios for other tech firms. Critics could point to FB stock selling at 13x sales – more than the 10x upper limit that many investors caution. But when your sales generate such high profit margins, it’s easier to overlook an expensive price to sales ratio.

Taking Share From Google: The ad market is often viewed as a duopoly, with Alphabet Inc (NASDAQ:GOOGL) and Facebook controlling around half the market.

Within the top two, Facebook is steadily making up ground on Google. In 2014, Google generated 37% of internet advertising revenues, compared to 18% for Facebook. The lead shrunk to 33% to 19% in 2015, 32% to 19% in 2016, and down to 32% to 20% last year. It will take awhile for Facebook to overtake Google at its current pace. But the gap is continuing to close. And there’s little competition from below. The next highest player is Twitter Inc (NYSE:TWTR) at just 4.4% of share.

Huge Digital Ad Growth Left: There has been some concern about the effectiveness of digital advertising. Big-name consumer product companies have cut digital ads, and reinvested the funds into stuff with more “reach” such as television and audio. Procter & Gamble (NYSE:PG) and Unilever plc (NYSE:UL) are among such firms cutting their digital ad spend. This has caused panic in some circles.

But the reaction may be overblown. It’s important to focus on the bigger picture. Digital ad spend topped television for the first time in 2017. It’s expected to reach the same level as all offline ad-spend in 2020. In 2021, analysts forecast digital ad spend to hit $376 billion, up from $228 billion in 2017. If Facebook can get to 28% market share in 2021, it hits $100 billion in revenues – a massive increase from last year’s $41 billion. There’s still a nice runway here.

FB Stock Verdict

Facebook’s political problems keep going from bad to worse. The Cambridge Analytica scandal could really develop into something major. So far, FB stock has held up but it’s vulnerable to real trouble if the scandals don’t let up soon.

That said, these problems could create opportunity. Facebook stock is looking cheaper than usual, especially if a short-term correction knocked shares down another 8-10%. The company is continuing to gain ground on Google in a market that itself continues to boom. All in all, FB stock could end up a lot higher once Facebook gets past its current (though admittedly serious) public relations problems.

At the time of this writing, the author held UL stock and had no position in any of the other aforementioned securities. You can reach him on Twitter at @irbezek.

Article printed from InvestorPlace Media, https://investorplace.com/2018/03/faced-with-another-scandal-is-facebook-inc-stock-a-buy/.

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