This week’s news regarding Facebook’s lax data security policies, while troubling, appears likely to have created a short-term opportunity to own the dominant social network at a significant discount. Today I acquired out-of-the-money Facebook call options (9/21/18 expiration) on the belief that the business fundamentally is sound, the market reaction to the current news cycle is overblown, and that there exists a high probability that Facebook will return to, or exceed, its recent prices in advance of contract expiration; the ongoing selloff likely also constitutes a logical entry point for a long-term buy-and-hold investors.
My investment thesis is simple:
- Facebook is dominant. With nearly 80% of all US social media ad spend, Facebook is the undisputed king in social media, both in network size and ad revenue.
- Relevant fundamentals are strong. Though US user growth has stalled, top-line revenue growth remains ridiculous, international user growth is healthy, and average revenue per user is at an all-time high.
- Facebook’s penetration into small business advertising likely is in its infancy. The company’s ability to demographically and geographically target users is extremely powerful, and attractive to both B2C and B2B advertisers, many of whom at first may be slow to advertise on unfamiliar platforms.
- Facebook ads represent a good advertising value. In my experience, the cost of lead acquisition using Facebook ads (even adjusting for the reduced purchase intent of social media leads) is favorable relative both to other social media and search platforms. Basic market economics dictate that both market penetration and ad prices will increase until such time as an approximate economic parity exists between Facebook ads and alternate forms of lead acquisition; this trend is likely to drive significant growth of average revenue per user.
- Facebook is addictive and unlikely to be eliminated from everyday life. Many people try to give up Facebook; most soon return. Critical mass is long since established, and other company-owned properties remain on rapid growth trajectories. Furthermore, through a variety of smart strategic initiatives (e.g. Facebook as a means of authentication throughout the web), the Company has made it difficult or impossible to stop using the service; an exodus from Facebook is a low probability event.
- The largest perceived risks are unlikely to materialize. Though there will be considerable bad press, as well as entertaining congressional Sturm und Drang, significant regulatory or legislative blowback in the United States appears to me unlikely in the current political climate.
- The market reaction is disproportionate to the risks. Facebook is down 10% compared its price just two days ago; movement of this magnitude appears irrational assuming most other components of the investment thesis are correct, or at least not woefully wrong.
- Recession or generalized market correction. If the market goes down substantially, Facebook will follow. The 10% haircut received in the most recent two trading sessions may somewhat soften this risk.
- Political blowback. There is political risk, but it is difficult to envision a worldwide, unified response sufficient to meaningfully impact Facebook’s growth or profitability.
- Legal risks. Facebook will get sued a lot; this likely will matter very little.
- Timeframe. The 6-month timeframe of the options seems to be the weakest part of this investment idea. If you are not looking for leverage through options, the long-term buy-and-hold approach likely will serve you well.
I’m a man with an opinion, and a flawed one at that. Be skeptical. Assess this opinion for yourself, verify the data referenced, and use your own judgment when making your investment decisions. If you happen to make money based on the ideas presented herein, that’s wonderful. If you have respectful comments or contradictory data, it would be welcomed.