Facebook, Inc. (NASDAQ:FB) reported highly anticipated Q3 earnings yesterday and while the results were mixed – overall though, it seems analysts were disappointed and the stock is down about 4 percent to about $127 at the time of this writing (and was down eight percent after hours yesterday). So why the drop? Is valuation too high and/or were the results just not that great? Analysts have a slew of reports out this morning on the topic and provide their thinking below (spoiler: analysts do not blame high valuation). Below is a short summary of the reactions.
FB Earnings – Sell side reacts
Michael Graham, CFA Canaccord Genuity
Facebook reported solid Q3 results, with ad revenue growing ~59% y/y, from 63% in Q2. Management guided to further deceleration in Q4 given a tough Q4/15 comp when ad rev growth accelerated 900 bps. However, 2016 expense growth guidance was lowered again by 500 bps for non-GAAP and pointed to the lower-end for GAAP expenses. 2017 revenue expectations were tempered with reiteration of slower ad load growth next year. That said, there are several consumer and ad innovations that should keep advertiser demand high. We believe Facebook’s operating momentum, high growth, and reasonable valuation continue to suggest it should be a core tech holding.
Bullish: MAU and DAU growth re-accelerated; ad revenue beat consensus; operating margin expanded ~80 bps sequentially and ~570 bps y/y.
Bearish: Ad load growth is expected to moderate in mid-2017.
The ~8% pullback after hours has created the best buying opportunity of the season. Clearly the market is spooked by FB’s 2017 commentary, but there was nothing new and certainly not anything that the market didn’t eventually expect to hear. FB has been warning of slowing ad load growth since last quarter and highlighting tougher comps for several quarters…and everyone already knows management’s pattern of providing high initial expense guide only to walk it down during the year. There’s no doubt the business is performing much better than expected (as seen through multiple quarters in a row of upside) and we think FB is just trying to keep expectations in check as we head into 2017.
While 50%+ Y/Y growth is bound to slow down, we note that 1) advertiser demand remains robust for both Facebook and Instagram, given industry-leading ROI metrics, 2) user growth and engagement remain robust, and 3) ad load is still likely to move higher for Instagram and in ROW. FB remains a top pick given 1) its position as the largest/most engaging Internet platform, offering personalized marketing at scale; 2) the massive video-viewing shift from TV to online, with Facebook a natural destination; 3) migration of ad$ to mobile/social; and 4) yet untapped monetization potential for WhatsApp, Messenger, and Oculus.
Global MAUs were up 16% YoY to 1.79b – slightly ahead of our est. of 1.75b. Global DAUs were up 17% YoY to 1.18b, slightly above our est. of 1.16b. Mobile DAUs increased 22% YoY (to 1.09bn) inline with +22% YoY growth shown in the prior quarter. Mobile MAUs were up 20% YoY to 1.66b (vs. +20% YoY in Q2 2016).
We do not view our investment thesis as being impaired in any way: 1) FB will be able to drive long-term revenue growth without a material lift in ad loads (NT drivers include Instagram/Video/DPA), 2) Street models continue to underestimate the LT monetization potential of new products, 3) optionality/upward bias to estimates, which do not contemplate multiple other products including WhatsApp, Messenger, and Offers/Local.
FB CFO Wehner stated that while “premature for specific guidance,” FB currently expects 2017 will be an “aggressive investment year.” However, 2017 “aggressive investment”comments as it pertained to Opex growth were similarly provided for FY 2016 initially, and now those comments have proven to be conservative. In addition, on the topic of “meaningfully lower” ad load growth, CFO Wehner’s remarks from 3Q nearly mimic his remarks from 2Q as he states that ad load will be a “less significant factor in driving revenue growth after mid-2017.” We believe this quarter’s commentary was meant to reiterate prior quarter remarks, as opposed to signaling additional conservatism, something our follow-up conversation with management seemed to support.
Strong Q3 results as company advances its duopoly of mobile ad spend. The company posted better Q3 results on nearly every metric and continues to garner, along with Google, the majority of mobile ad spend growth. Facebook’s ad business grew 59% YoY, with the mobile portion growing 71% YoY. The company indicated Q4 revenue growth rates will be slower due to a strong comparison from Q4 last year.
What You Need to Know:
- Third-quarter ad revenue was 1.5% above the Street estimate and increased roughly 59% year-over-year
- GAAP EPS of $0.82 beat the consensus estimate of $0.71
- Monthly and daily active users both beat Street estimates and both reached the highest year-over-year growth rates over the last seven quarters
- 2016 GAAP and non-GAAP expense growth guidance comes down again
- Management provided initial commentary on 2017: Ad revenue growth down “meaningfully,” 2017 to be an “aggressive” investment year on the expense side, and capital expenditures will grow “substantially”
This quarter will be viewed as having some good and bad, in our opinion. On the good side, revenue showed upside and non-GAAP operating margin expansion considerable outperformance yet again, leading to another solid non-GAAP EPS beat. As well, ARPU in the U.S. and Canada (48% of ad revenue) posted very strong growth at +53% yoy versus 59% in 2Q16. Given concerns that newer, competitive platforms were starting to impact engagement metrics in the U.S. in particular, we see the ARPU metric as helping to refute this.
Facebook reported a very strong 3Q reflecting continued growth in users, engagement, monetization, and margins. However, 2017 guidance for a “meaningful” revenue deceleration and “significant” investments will likely weigh on investor sentiment until greater clarity is provided on magnitudes and costs vs. investment spending. That said, our 2017 estimates are little changed with a ~20pt deceleration in revenue growth and an additional ~$4B of expenses expected. We believe platforms of scale should be investing and reiterate our Buy and $142 PT, implying ~22x FY18 P/E (<1x PEG).
Facebook remains our top pick across the Internet sector, with multiple catalysts in the near term around new ad products, Instagram, and video, and longer-term around Messenger, WhatsApp, and Oculus. We update our target multiple to reflect 2018 projections and our $165 price target is now based on ~15x our 2018 EV/EBITDA, whereby our EV is $444.1 billion and EBITDA is $29.1 billion. We justify our multiple due to Facebook’s strength in online advertising and continued strong overall growth rates as we project 2015-2018 revenue and EBITDA CAGRs of 38.0% and 37.5%, respectively.
Back in Jan. we said the ’15 holidays would be remembered as a watershed moment for mobile ads. This appears to be playing out as ad dollars pour into mobile campaigns with FB the primary beneficiary, attracting more new ad dollars than even larger peer GOOGL. Investors will focus on the ’17 outlook, which suggests high expenses and slowing growth. FB currently trades at 26x ’17 EPS, its lowest multiple ever.
Deutsche Bank on the negatives
Mobile ad revenue was “only in-line” with consensus for the first time since 4Q12. The 1-year and 2-year mobile advertising deceleration likely reflects comping Instagram for the first time and some accentuated seasonality in 3Q (mis-modeled by the street) but demand trends remain robust for FB NF. All the upside to consensus came from lower quality desktop ad revenue from the ad blocker block.
What do you think of Facebook Inc (FB) the company and/or the stock – comment below!