Facebook Stock Is Still an Absolute Bargain

Facebook (NASDAQ:FB) shattered estimates in its first-quarter earnings report.

Revenue soared 47.6% to $26.2 billion, lapping a pandemic-impacted quarter a year ago and breezing past analyst expectations of $23.7 billion. Facebook’s growth was driven by a 30% increase in ad prices and a 12% uptick in impressions. The emergence of the Oculus also padded results as revenue in its “other” segment jumped 146% to $732 million.

There were signs coming into the report that digital advertising had surged in the first quarter. Advertisers are preparing for the economic reopening and shifting budgets to digital channels to take advantage of the increase in screen time during the pandemic, which has clearly benefited Facebook. Additionally, the company’s execution in areas like e-commerce helped drive better-than-expected growth.

Results were just as impressive on the bottom line. Operating income nearly doubled year over year to $11.4 billion with a 43% operating margin (up 10 percentage points), and earnings per share increased from $1.71 to $3.30, easily beating the analyst consensus at $2.37.

The Facebook

Image source: Facebook.

A clear pattern

During the initial stages of the pandemic a year ago, Facebook said revenue was actually falling at one point as advertisers suspended campaigns due to the uncertainty presented by the economic shutdown. However, once that period ended, advertising demand began to ramp up again, and the business is now growing as fast as it has in years. Both the company and analysts have been consistently surprised at how quickly Facebook has recovered. Take a look at how its earnings per share results have compared with the analyst consensus over the last year.

Data source: Yahoo! Finance.

As you can see, Wall Street has consistently underestimated the company by a wide margin. The 2021 consensus estimate for earnings of $11.36 per share, up just 13% from the previous year, looks woefully inaccurate now given recent growth rates and the fact the company has generated $7.18 in EPS in just the last two quarters.  

The barbell method

What’s amazing about Facebook’s business is how little spending it requires. The company has a massive social network with billions of users around the world, and it sells ads next to user-generated content. Its reach and targeting have made the platform hugely valuable to advertisers, which now number 200 million, and that model generates operating margins above 40%, as the most recent quarter showed. In other words, Facebook keeps close to half the revenue it collects after deducting business expenses.

These days, a significant portion of Facebook’s R&D spending goes to augmented reality (AR) and virtual reality (VR), which CEO Mark Zuckerberg believes will be the next big computing platform. In other words, Facebook is using profits from its advertising business to subsidize its next major growth opportunity, Oculus, a technique investors like my colleague Brian Stoffel call the barbell approach. This advertising business is even more profitable than it looks if you back out the spending on Oculus, but investing in AR/VR, which is still in its early stages, could lead to Facebook’s next big revenue stream, even if the market seems to be overlooking its potential.

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An incredible bargain

Facebook will face headwinds over the rest of the year from restrictions on ad targeting in Apple products, and revenue growth is likely to slow in the second half of 2021 as year-over-year comparisons get more difficult. Even so, the results highlighted above and the economic reopening will drive heavy advertising demand, meaning Facebook’s EPS could rise as high as $15 this year.

Based on that figure and even factoring in its post-earnings share price gains, the stock is trading at a forward price-to-earnings ratio of less than 22. Back out the $64 billion in cash and equivalents it has on the balance sheet, and its forward P/E would be closer to 20.

Considering the frothy market environment and the fact that Facebook just grew revenue by 48%, this tech stock may offer the best value of any large cap on the market today. It’s still not too late to buy some shares of the social media juggernaut.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.

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View more information: https://www.fool.com/investing/2021/05/03/facebook-stock-is-still-an-absolute-bargain/

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