Facebook Inc (NASDAQ:FB) shares are soaring. Yes, there have some dips and troughs along the way but as this graph shows the five-year picture looks very positive:
And it is precisely for this reason that now is the time to sell- to take the profit and to leave the Facebook story for the rest of the market to get excited/worry about. Because while Facebook is not quite the bubble that Twitter or Pandora appear to have been, there is a real risk that at current levels (and a market cap of an incredible $365 billion) the stock has found itself firmly in overvalued territory. Here are three reasons why Facebook’s current growth appears unsustainable:
- Saturation – One of the biggest risks to Facebook’s ongoing growth prospects is the fact that its user base is going to reach saturation point- and this could happen sooner rather than later. Think about it this way: in September 2016 Facebook already had 1.79 billion monthly average users. This is a huge proportion of the total 3.5 billion people who have internet access (about 40% of the world’s population). Furthermore, while Facebook could expand its users via the 2.8 billion people who have internet who don’t use Facebook, the fact remains that the highest average ad revenue per user is in the US and Canada (by a long way- $15.65 in Q316 for the US and Canada vs $1.21 for the rest of the world and $4.72 for Europe), and Facebook’s expansion potential in these two countries is much more limited as these are the two most saturated countries in the world.
- Ad Load Rate – Back in November 2016, Facebook’s CFO Dave Wehner gave investors pause for thought when he announced that ad revenue growth will decrease ‘meaningfully’ as ad load growth slows. Facebook’s average ad revenue growth had previously averaged about 50% over the last couple of years. However, the social media giant has now almost reached the ad load maximum capacity- in other words the number of ads a user sees before it seriously impacts their experience of the site. In order to grow revenue without such impressive ad load growth (one of Facebook’s three primary sources of ad revenue), Facebook will need to expand its user base while also making the most of monetizing its other acquisitions, most importantly Instagram, but also Messenger and Oculus. In the same conference call, the CFO also announced that 2017 will be a year of aggressive investment- translation: 2017 will be a year of high spending which could be an interesting combination with the decreasing ad revenue growth.
- Fake News – Fake news is looking pretty real right now. Facebook has just announced today that it is prioritizing ‘authentic’ news in the NewsFeed with a new ranking algorithm that picks up and promotes up-to-date content that people find genuine rather than sensational, spammy news that is no longer relevant. (Whether this will be as effective as a more draconian outright ban on ‘inauthentic’ news remains to be seen.) While such an initiative will no doubt improve the user experience, and keep the NewsFeed a valuable source of information, it could be bad news for Facebook’s ad revenues. Why? Well the fake news publishers are now less likely to pay for Facebook ad space if their posts are going to be pushed to the end of user’s newsfeeds. The market does not know what proportion of Facebook’s ad revenue comes from fake news sites but it could be significant- perhaps one of the reasons why Facebook is reluctant to remove fake news from the site altogether.
Disclaimer: The author has no positions in the stock mentioned. This article is intended for informational and entertainment use only, and should not be construed as professional investment advice.