Key Takeaways From Facebook’s 2018 Earnings Report

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Facebook (FB) stock is one of the core holdings in my buy and hold portfolio.

This has made me somewhat of a contrarian in recent months, as the company has been plagued with negative headlines from the news media.

I personally believe that the various privacy scandals are overblown. In most cases, the news reports intentionally try to make things seem worse than they really are.

Despite that, many investors have been scared off of investing in Facebook, perhaps believing that the bad news will convince users and advertisers to leave the platform.

Last year, the stock peaked at $218 before dropping 43% and bottoming at $123 after the various “scandals” and the October-December stock market drop.

After the Q4 2018 earnings report, which was released on the 30th of January, patient holders of the stock were rewarded. The stock jumped over 10% on the day after the report and is currently trading at $165.

This massive turnaround for Facebook shares was understandable, because the earnings report was absolutely fantastic.

Here are several key takeaways from the earnings report.

Revenue grew by 30% and earnings grew over 60%

In the quarter, Facebook’s revenue increased by 30% year over year (33% in constant currency). For the full year 2018, revenue was 55 billion, a 37% increase over the 40 billion in 2017.

This is a deceleration from the rapid growth of prior years and quarters, but still massive growth compared to the size of the company. It is the fastest growing of all the FAANG stocks.

Keep in mind that they expect earnings growth to continue decelerating in 2019, which is reasonable given the size of the company and the fact that economic growth is slowing down globally.

Turning to earnings, net income increased by 61%, while earnings per share increased by 65%.

The disproportionate increase in earnings is partly because Facebook’s tax rate was much lower in Q4 2018 compared to Q4 2017.

Monthly and daily active users grew by 9%, setting all-time records

A lot of people have been predicting a drop in users for the core Facebook platform. This earnings report proved them wrong for now, as both monthly and daily active users increased by 9% compared to the same quarter the year before.

There are now 2.32 billion people who use the core Facebook platform each month. 1.52 billion of those are daily active users.

Facebook also set a new all-time record for daily active users in US & Canada, as well as a new record for monthly active users in Europe.

Two-thirds of internet users globally use Facebook, Instagram, Whatsapp or Messenger

Keep in mind that the user numbers above do not include Instagram and Whatsapp, which Facebook also owns. These platforms are also massive but still growing rapidly.

Facebook now estimates that 2 billion individuals use at least one of their “family” of services each day. This is about half of the total estimated number of internet users globally.

The monthly user estimate of 2.7 billion puts this number over 69% of the world’s estimated 3.9 billion internet users.

Facebook has over 40 billion in cash and huge free cash flows

Facebook has been spending a ton of money in the past year. They have invested billions in security and hired thousands of people to increase the safety of their platforms.

They have also been actively buying back shares, with buybacks of 12.9 billion in 2018.

Despite all of this, Facebook currently holds 41 billion dollars in cash and cash equivalents.

They also produced over 15 billion in free cash flow last year, which is a decrease from the previous year’s 17 billion but still incredibly impressive given how much they’ve been investing in security.

Expenses have increased substantially, leading to reduced margins

There is one major negative thing in the earnings report, which is increased expenses and reduced margins.

Facebook has been investing a ton of money in safety and security this year. This has been absolutely necessary to fight abuse of its platforms, such as with foreign political interference, fake news, hate speech, etc.

Because of this, expenses grew faster than revenue this year, which led to a 5% drop in operating margins. For the full year 2018, operating margin was 45%, compared to 50% in 2017.

I am personally not concerned as their margins are still incredibly high and because these added expenses are crucial for the long-term success of their platform.

I don’t believe this will be an ongoing trend and think that margins will stabilise in 2020 and beyond. Facebook has said that they expect expense growth to moderate after 2019.

The executives of Facebook are running the company with a long-term vision, rather than focusing just on the next earnings report.

Headline risks still remain

Despite ending the year on a strong note, there are still several risks to be expected in holding Facebook stock.

Given that it is very popular to bash Facebook these days, we can expect to continue seeing news stories that make the company seem evil, even though many or most of these reports are either false or misleading.

Regulators in many countries have said they want to regulate the company in some way. Plus there are various ongoing lawsuits against Facebook.

However, keep in mind that most of the “scandals” in the past years were due to old incidents, such as the Cambridge Analytica fiasco which happened in 2013-2015.

Most of the privacy problems have already been fixed by Facebook, or are in the process of being fixed. So eventually the media will run out of “dirt” to dig up.

Plus regulations against Facebook should also apply to their competitors, so I don’t think they will necessarily be a bad thing.

Regulation might even help cement Facebook and Google as the global market leaders in online advertising because upcoming competitors won’t have the financial strength to deal with all the new regulations.

When asked on the last earnings call what to think of the headline risk, Facebook CFO Dave Wehner said:

In terms of your first question, Justin, about the impact of the press cycle, I would just probably let the numbers stand for themselves.

I agree. My plan is to stay invested in Facebook and let the numbers speak for themselves.

Final thoughts

The opportunity for Facebook is so massive that I think they might one day end up being the world’s most valuable company.

With their 55 billion in revenue, they still serve less than 10% of the 600+ billion global advertising market.

So they have a massive runway of growth ahead just from advertising, not to mention their untapped opportunities in eCommerce on Instagram, or payments on Messenger and Whatsapp, to name a few.

I plan to hold my shares for a very long time, unless if I see a genuine threat on the horizon to their dominance in social media and online advertising.

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