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Facebook - strong underlying results

George Salmon | 25 July 2019 | A A A
Facebook - strong underlying results

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Meta Platforms Inc Com USD0.000006

Sell: 306.81 | Buy: 306.98 | Change -3.55 (-1.14%)
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Facebook has delivered second quarter results that are, on an underlying basis, ahead of prior market forecasts. However, the group also confirmed it's settling the Federal Trade Commission's (FTC) investigation into its use of data for $5bn and that the Department of Justice (DoJ) has launched an antitrust investigation.

The shares rose marginally higher in after-market trading.

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Our view

The recipe for Facebook's success has been a simple one. Take two billion monthly users, add a huge amount of data on those users and... voila! A perfect canvas for advertisers.

Revenue has compounded up at an average rate of close to 50% in the last five years, and a comparatively low cost base means profits have come along for the ride. However, change is in the air.

Oodles of data give it great power, but that brings great responsibility too. Spending, including on data security and combatting fake news, is being ramped up after some high profile data lapses.

In addition, Facebook's investing in other growth opportunities. Better VR capabilities and powering a new virtual currency, Libra, are on the group's to-do list, as is investing in tougher to monetise, but increasingly popular, personal messaging features like Whatsapp and Messenger. That means revenue growth is set to slow going forwards.

The double whammy of weaker revenue growth and higher costs is bad news for profit margins. They're set to fall to somewhere in the mid-thirties in the foreseeable future - some way behind last year's 44.6%.

We can understand the rationale. You've got to invest to stay ahead in tech, and making sure Facebook provides what users want and trust is crucial. But uncertainty around the transformation brings risk, and regulators don't quite see eye-to-eye with the group following the Cambridge Analytica scandal.

Nonetheless, a few reassuring quarters have got the group back in vogue with investors. After dropping to lows of under 17 around Christmas, the share price bounce has taken the PE ratio back up to 24.3.

Still, for all the bluster and negative PR, Facebook looks well placed to us. It remains an invaluable resource for advertisers. With user numbers and revenue per user both still growing, and growth platforms like Instagram driving forward too, earnings are expected to rise by about 50% by 2021.

The balance sheet is packed with cash too. Some of that cash is coming back through share buybacks, but investors shouldn't expect a dividend yet. The transformation remains the focus for now.

The road ahead could well be a winding one, but Mark Zuckerberg has shown excellent judgement in the past and his decisions are clearly made with the long-term in mind. Therefore we think the group deserves the benefit of the doubt for now.

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Second quarter results

Facebook's revenue rose 28% year-on-year, to $16.9bn, driven up be further increases in active users and revenue per user.

Earnings per share dipped 48% to $0.91. While underlying costs increased, the main reasons were the group having to extend its FTC settlement provision from $3bn to $5bn, and incurred a $1.1bn tax related cost. Strip out the exceptional items and EPS would have been $1.99, 14.4% higher than a year prior.

Facebook daily active users rose 7.9% to 1.6bn. Growth came across all geographies, led by Asia Pacific, which grew 12.6% to 615m. The group estimates it has 2.1bn daily actives when WhatsApp and Messenger are included.

Capital expenditure continues to rise, stepping up from $3.5 to $3.6bn. However, the higher profits and other increases in operating cash flow fed through to a 70% increase in free cash flow, to $4.8bn. This helped the group's net cash position (including marketable securities), rise to $48.6bn.

During the quarter, the group also outlined plans to launch a virtual currency, Libra.

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