Wednesday, April 10

Facebook will have the last laugh

Facebook will have the last laugh
| By Michael Brush, MSN Money

The bad taste left by a bungled IPO and persistent myths of corporate weakness are keeping the social-networking giant's stock down. But a lot of experts see big gains ahead.

Facebook is back in the doghouse. Its stock is significantly lagging the market this year. Recently around $25.50, it's down 21.5% from its Jan. 28 high, compared with 3.4% gains for the Nasdaq during the same time.

But in all the other ways, Facebook (FB) is doing better than ever. The stock is weak for all the wrong reasons.

Which means Facebook -- and investors who buy at today's prices -- is going to have the last laugh. Here's why.

Big picture, a lot of investors avoid Facebook because of the bad reputation left by its bungled initial public offering. Simply put, it was priced way too high when it hit the market last May, amid excessive Wall Street hype and accompanying trading snafus. The dive from $38 a share to below $18 last fall cost traders lots of money.

We were all reminded of this last week by the news that the Nasdaq Composite Index ($COMPX) has to pay out millions related to those trading problems.

More recently, Facebook has been dogged by a half-dozen persistent and outlandish myths. As reality sets in and these myths go away, investors will buy the stock of the world's most popular social website. That should push the stock up more than 35% over the next year, to about $35. It could send it up fourfold over the next several years.

Michael Brush

"I think the stock's really attractive here," says Tom Vandeventer, portfolio manager of the Tocqueville Opportunity Fund (TOPPX). He made a similar call in my Sept. 18 column ("Are Facebook and its brethren buys?") during another phase of weakness in the stock. Then it was at $21.50, ahead of a move to $32.50. (It's fallen back since.)

JPMorgan Chase analyst Doug Anmuth predicts Facebook will turn into an "enduring, blue-chip company" as it continues to show investors it can convert its popularity into profits. Short term, he's got a $35 price target over the next 12 months.

Kevin Landis, portfolio manager of Firsthand Technology Value Fund (SVVC) thinks Facebook will grow to match Google (GOOG) in market value over the next several years, a move that would quadruple Facebook's stock price to $107.

Given how much people love to hate Facebook, these predictions might sound crazy. But not if you explode the six myths holding Facebook back. Let's blow 'em up one by one.

A big knock on Facebook is that it can't make the move to mobile, because cellphone screens are so small it's tough to run ads there. Fourth-quarter results blew this myth out of the water.

Mobile ad revenue shot up to 23% of overall ad revenue, from zero at the start of the year. And it advanced an impressive 50% over the third quarter, to hit $305 million out of $1.33 billion total ad revenue. One reason for this is that Facebook mobile ads actually get a higher click-through rate than desktop ads, says Vandeventer.

In short, 2012 was the "show me" year for Facebook mobile, and it showed us. "A lot of what we had to do last year was simply improve our mobile development process. Now we're there," CEO and founder Mark Zuckerberg said in the company's fourth-quarter conference call. "Today, there's no argument. Facebook is a mobile company."

Next up: Doing the same thing on Instagram, Facebook's popular photo-sharing service. Trust me, ads are arriving there soon, and sales growth will follow.

Ads run in Facebook's "news feed," the main content area showing updates, feel too much like spam, say Facebook skeptics like Jon Burgstone, a managing director of Symbol Capital, who teaches engineering at the University of California, Berkeley. So they alienate Facebook users. "Facebook still hasn't figured out advertising," says Burgstone.

One simple number blows this myth away: 41%. That's how much advertising revenue grew in the fourth quarter, to $1.33 billion.

"One of the big drivers of this has been that as we rolled out our ads to News Feed, we found that it barely affected the level of engagement on Facebook," says Zuckerberg.

Yes, but Facebook can't charge as much as Google for ads, because the ads are less effective, say the skeptics. True, Facebook does charge less, but the ads work. And that lower cost means the return on Facebook ads is higher than at Google, one marketing expert tells me. This no doubt helps explain the huge fourth-quarter revenue growth.

"With Google ads, you see sales increase, but the cost is so high the profit margin is lower," says Kenneth Wisnefski of WebiMax, an online marketing firm with about 500 clients. "At Facebook, the return on investment is higher because the cost is lower."

Facebook says independent studies by research companies like Nielsen, Aggregate Knowledge and Datalogix found its ads reach more people at a lower cost compared with "other online channels," no doubt a reference to Google, which targets ads on the basis of search history.

This makes sense, since Facebook knows so much about users. And rest assured that Facebook will keep figuring out ways to convert what it knows about you into marketing power for advertisers. And it'll be able to charge advertisers more, as a result. "That's the endgame here," says Vandeventer.

Facebook is trying new things here all the time. One example is "Custom Audiences," a service that helps advertisers match campaigns to user demographics. Another -- in the very early stages -- is "Graph Search," which lets some Facebook users search the "social graph," or the constellation of posts and contacts at the site, just as you might use Google to search online content. "This is one of the products that I'm the most excited about," says Zuckerberg.

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