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Facebook’s billion reasons to smile

Oscar Wilde famously said the only thing truly worth possessing in life is youth. Of course he forgot shares, but if you could possess both you’d probably want to own some shares in Facebook Inc (NASDAQ:FB).

Last week for the first time ever the site recorded a billion users login on a single day. Naturally its young founder Mark Zuckerberg announced the news via his Facebook page and this 11-year-old company is now valued at around $US255 billion with a short history and huge future.

Growing up

Founded in 2004, Facebook priced its initial public offer at US$38 per share in May 2012, although the stock quickly collapsed in half under amid a swirl of controversy and short-term doubts around its ability to grow revenues as expected.

However, short-term thinking often hampers long-term returns and the stock’s quadrupling in value over the past three years is an example of why it pays to tune out the market noise and focus on a company’s long-term prospects.

After all, it’s not hard to make the bull case for Facebook. It’s free and has 1.49 billion monthly active users, with 1.31 billion of them mobile users as at the end of June 2015. The data these users are encouraged to share with Facebook is what makes them especially valuable. Information like their age, gender, location, education and specific interests are all recorded so adverts can be precisely targeted at users.

No wonder advertisers are happy to take advantage of Facebook’s incredible database in an attempt to increase product sales, or general awareness around brands and services. Generally advertisers fix the maximum amount they will pay for their ad, either per click, or per thousand impressions on what is probably the most highly-engaged consumer network available to advertisers worldwide.

Advertising revenues for the most recent quarter were US$3.83 billion and now represent around 90% of the group’s total revenues. Although it’s Facebook’s leverage to mobile’s growth that has really driven the share price gains since the IPO. Mobile advertising revenue represented 76% of total advertising revenue for Q2 2015, up from 62% of total revenue in the prior corresponding quarter.

Growing pains

The torrid mobile growth brings risks though. Much of the ongoing success is now dependent on the interoperability of popular mobile systems like Android and iOS that Facebook has no control over. It’s not impossible that Apple (NASDAQ:AAPL) or other tech rivals decide to stop co-operating, or provide preferential treatment to rivals for commercial gains.

User growth is also far from a no-brainer and several other social networking companies have seen their user bases peak and then sharply decline as the same network effects that built them conspired to defeat them.

Facebook recognises its vulnerability as a largely one-trick pony and the competitive risks from companies like Google (NASDAQ:GOOGL) that replicate the range of messaging and other social networking functions that Facebook offers.

Its solution was to spend around US$20 billion acquiring the photo sharing Instagram business and the WhatsApp messaging business. The kicker is Facebook’s yet to really start monetising or cross selling these fast-growing businesses as it forsakes short-term revenues in favour of long-term gains.

Foolish takeaway

Some investors may be put off by the soaring share price, or worries around another tech stock bubble. However, Facebook is a solid long-term growth prospect trading on around 45x annualised earnings per share.

Australian investors should also consider the benefits of exposure to US stocks given the soft outlook for the local economy and consensus that the Australian dollar will fall once the US embarks on a rate rising cycle later in 2015.

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Motley Fool contributor Tom Richardson has no position in any stocks mentioned. Unless otherwise noted, the author does not have a position in any stocks mentioned by the author in the comments below. The Motley Fool Australia has no position in any of the stocks mentioned.

You can find Tom on Twitter @tommyr345

We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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