The Facebook Disaster: Pt. 2

Last Thursday, Facebook reported profit growth of 42% missing the consensus guess of 43% growth. The stock price fell 20% in the ensuing hours, and much gnashing of teeth and gloating by others worried that the ride to infinity was over. Really?!

A 20% drop is no small thing and in Facebook’s leagues, it’s a big drop which naturally has lit up social media and old media (who hate Facebook) with all kinds of speculation. That was the largest dollar drop ($100 billion+) ever recorded by any company. The poor suffering shareholders are left with a measly $500 billion of residual trash to sort through. Poor us!

We won’t spend much time explaining that our thesis has not changed, because it has not. It didn’t change when the data sharing “scandal” broke in March because it was a known issue and not new news. Clearly, the scandal had little effect on the people who pay Facebook—the advertisers—and it had little, if any, effect as far as we can tell on user engagement. The company has been warning for months that it was going to up its investment in security to protect its franchises. It has been warning that it would likely impact, for some time, its profitability and now it has. That’s one of the reasons we had reduced our exposure earlier. That Facebook is making enormous investments to protect its franchise is good and smart. Anyone wanting to compete with Facebook in the new world order of data privacy rules will have to spend like crazy too and that is a very hard thing to afford unless you are big and profitable like Facebook. Investment and the cost of regulation are now some of Facebook’s biggest competitive advantages. The government has basically made new competitors jump over a massive hurdle of regulatory costs to get started, much less compete with incumbents. Monopoly, or close to it, solidified! We love it.

What we do want to point out though is that 90 days ago Facebook was valued exactly where it is today. We have undone the previous 90 days of gains. If that is a disaster, we will take it; especially as the company generated $5 billion more dollars in the bank over those 90 days.

Facebook has been completely transparent about its business plans and model more so than many. They are doing all the right things to adjust and solidify their powerful model; implementing technology and people to keep pace with the torrid growth, usefulness, and yes, abuse, that is the social fabric of 2.5 billion users.
Its profitability, by its own forecast and most others, will be close to unmatched in historic proportions and if cut by half, would still outstrip 99% of the S&P 500. It now trades at valuations that are highly compelling and leaves us wondering, as we speculated recently to you, when to buy more. We are likely close but also aware that being wrong is a function of time rather than permanence. We will wait, but with a great deal of apprehension, worrying that the sale price may not last long.

We are left wondering (dreaming, really) if we could be either Mark Zuckerberg of Facebook or Elon Musk of Tesla fame who would we rather be today? Poor Mark must incur a few extra costs against profitability for a while but still sits atop a company that made $5.1 billion the past 90 days or Twitter happy Elon, hoping he can keep the lights on for another 90 days. The “Market” is a wonderful paradox at times.

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