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Facebook Stock Could Be Boosted by Spinoffs

By spinning off WhatsApp and Instagram, FB could avoid taxes and attract new investors

Source: Shutterstock

For owners of Facebook (NASDAQ:FB) stock it’s been a troubling couple of months. Let’s start with the obvious. Since July, FB stock has plummeted from its high of almost $220 to under $150 today. While the company initially shook off the Cambridge Analytica scandal, the consequences of it continue to cause considerable repercussions.

Those repercussions have been reflected in Facebook’s recent earnings reports. Its profit margins are moving sharply lower, as the company has hired thousands of human editors and watchdogs to crack down on troubling content across the company’s platforms. I warned InvestorPlace’s readers about this issue more than a year ago, as I wrote that: “Facebook’s political troubles are mounting fast. The solution won’t come cheap.” As we’ve now seen, human oversight costs far more than using algorithmic bots to police content.

However, the problems plaguing FB stock run deeper than rising costs. FB faces a more existential threat. It appears that governments around the world will not be content to let FB regulate itself. Instead, it seems that governments are going to regulate social media and internet companies more stringently. And if governments really crack down on FB, the drop in Facebook’s profitability and the decline in FB stock that we’ve seen so far would be just the beginning.

Death by a Million Tax Hikes?

Many governments have recently become interested in taxing the internet giants. And while it may trouble those with libertarian sensitivities, the case for levying such taxes makes sense. The internet has displaced tons of traditional industries. These physical businesses provided untold numbers of jobs and they provided essential tax revenues to local and state governments.

We’ve seen all the hype about Amazon’s (NASDAQ:AMZN) new headquarters. But the absolute number of new jobs being created is rather modest. To give one example, Sears (NASDAQ:SHLD) as recently as 2017 still employed 170,000 people. In its heyday, the number was far higher than that.Amazon and other newer businesses have put many retailers like Sears into bankruptcy or on the brink of it. A local community that used to have a thriving mall that provided several thousand jobs and huge sales tax revenues now may, in its place, get an Amazon warehouse that offers a handful of low-paying jobs; that’s not a great trade.

Governments are reacting to this by trying to tax the new tech overlords. Amazon, for example, finally has to collect sales tax after not having to do so in many places.

But it appears that governments will be going much farther than that. Last week, Britain announced that it is planning to levy a 2% digital services tax on companies that earn more than 500 million pounds ($650 million) of revenues by accessing data on British consumers. The U.K. appears to be targeting only Alphabet (NASDAQ:GOOGL) and Facebook, as there are probably few other tech companies that generate that much revenue from the British market. Britain’s tax is dwarfed by an earlier proposal by the EU for a similar, 3% tax on digital revenues.

Taxes Are Much Worse Than Fines for FB Stock

Investors largely shrugged off the multi-billion dollar fines that the EU levied against the tech companies. Sure, the fines were sizable. But given the tech firms’ huge cash flows, a one-time fine hardly seemed like a big deal. The transition from fines to permanent taxes, however, creates a considerable problem. New taxes will lower Facebook’s and other internet companies’ profitability and future growth prospects indefinitely. Of course, that development would be negative for Facebook stock.

And we should expect momentum for this sort of taxation to grow. Many different jurisdictions seem to be arriving at the same conclusion. Uganda enacted a modest tax on daily users of Facebook and WhatsApp earlier this year, potentially setting the stage for more such taxes in emerging markets. Furthermore, Australia’s treasurer announced a proposed digital tax earlier this year, saying that: “The new economy shouldn’t be some sort of a tax-free environment”.

In the U.S., politicians haven’t imposed a digital tax yet. But Google, Twitter (NYSE:TWTR), Facebook, and other media platforms have not upheld their responsibility to present news and information fairly to their users. That violation of their perceived social responsibility has angered politicians from both parties. With the tech companies having inflicted so much damage on traditional news organizations, it’s hard to imagine that politicians’  anger about “fake news” and foreign meddling in our elections won’t cause them to take a tougher line on these social media platforms.

Would a Break-Up Help FB Stock ?

In a recent interview, President Trump noted that previous administrations had considered bringing anti-trust actions against Amazon, Alphabet, and FB but hadn’t pursued them. The host than asked Trump for his view. Trump said that: “I am definitely in charge, and we are certainly looking at it […] That doesn’t mean we’re doing it, but we’re certainly looking at it.”

At first blush, that would seem like terrible news for the tech companies because it could result in the government forcing them to break themselves up. But FB should actually consider breaking itself up.

Facebook now finds itself in an awkward position. Its legacy Facebook platform is mature, and showing signs of age. Younger users are giving it up, and it’s already so big that it has little growth potential left. Many investors say that they avoid FB stock because FB has peaked and will eventually decline.

But that view misses Facebook’s real value drivers now. Instagram utterly crushed Snap (NYSE:SNAP) in their head-to-head battle for the vital teens and twenty-somethings demographic. And WhatsApp looks like it could generate monster revenues in coming years if and when basic banking, financial applications, and shopping tools are integrated into the platform.

Three Could Be Better Than One for FB Stock

Imagine a world in which the Facebook website, WhatsApp, and Instagram are independent and publicly traded. Facebook (the company) could still own a large portion of Instagram and WhatsApp, but it could spin off chunks of them to the public. In one action, Facebook would solve numerous regulatory problems, making FB stock much less risky. It would no longer be seen as a giant that crushes all social media competition. It would reduce its revenues, potentially avoiding some of the new digital taxes.

And for owners of Facebook stock, such a spinoff could unlock a lot of value. Moreover, many people who avoid FB stock because they don’t like legacy FB or they don’t think WhatsApp can be monetized could simply buy the shares of the platform they believe has the best prospects. There’s no guarantee, but I suspect a broken-up Facebook would be more appealing to investors than FB stock is now.

At the time of this writing, Ian Bezek owned Facebook  stock. You can reach him on Twitter at @irbezek.

Article printed from InvestorPlace Media, https://investorplace.com/2018/11/facebook-stock-could-be-boosted-by-spinoffs/.

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