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  • Writer's pictureIshfaaq Peerally


$FB is the stock I bought the most last year and I was willing to make it the second largest position in my portfolio. The reason I bought so many shares of Facebook is because the company lost about 40% of its market value in a couple of months. The reason for this fall was the Cambridge Analytica scandal and other security breaches. But since the start of this year, Facebook stock recovered and I've not been buying for some time now. Is the stock expensive?

First, let's understand why Wall Street was wrong about Facebook. Facebook gives only the numbers for its Facebook platform, telling how many active users there are. Last year, the Facebook platform lost many users in North America and Europe which are their two most profitable markets. This was the main reason that caused Facebook to crash. What analysts ignored, however, were the numbers for Instagram, WhatsApp and Messenger. Facebook doesn't give us these numbers in details. If we look at Instagram, it is not fully monetized, there is a lot of work to be done. And Messenger and WhatsApp are not monetized at all. For this reason, Facebook has many options in front of it, more than any company in the world today. They can acquire any competitor like they did with Instagram and destroy any competitor like they did with $TWTR and $SNAP . Their main competitor today is $GOOG and together they have a duopoly on the digital ads. Although, Google being the largest player, they are not really a threat to Facebook since Google is primarily a search engine. You need search engines and you need social networks. Last year, the amount of money spent on digital ads in the US exceeded that spent on traditional ads, worldwide, with more people having access to the internet, this number is only going to increase more and more. So Facebook, as a business has a future.

Now, let's look at the numbers. Facebook is one of the rare companies with almost no debt. The other ones in the group are $GOOG and $SWKS . They have been growing revenues and net income at a fast rate over the last years but what interests me is free cash flow. Last year, their free cash flow was unusually low because they invested a lot of money in hiring new personnel to deal with their security issues. Right now, Facebook has a market cap of $520 Billions. So how much should the FCF grow per year to back such a valuation? I've assume that the FCF will grow for the next 20 years and then peak and stop growing(I do this for every company- after 20 years, the FCF don't add much to the present value). I've used a discount rate of 10% which is believe is reasonable but looking at the balance sheet of Facebook, it won't be a bad thing to go even lower. For a market cap of $520 B, the FCF must grow by about 11% per year. Now, if you compare with the real value, you'll see that Facebook has been growing its FCF by about 50% per year. So even in the worst case scenario, I don't see Facebook growing its FCF by only 11% per year. Facebook is clearly still undervalued. The price is not as attractive as it used to be but the company is still undervalued. I believe that by 2030, Facebook will be the largest company on Earth even larger than $AAPL $AMZN $MSFT $GOOG and $BRK.B .

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