Wednesday, June 10, 2015

Recent Buy: Facebook (NASDAQ: FB)

One of my investing strategies, as discussed in my previous post, is to invest in companies that have a strong competitive advantage and very minimal (if any) competition within their respective industries. I also like to look at companies with a strong network effect. As per Investopedia:
"[network effect] a phenomenon whereby a good or service becomes more valuable when more people use it."



There is no doubt that Facebook (NASDAQ: FB) has become a phenomenon all around the world. I still remember when I was first introduced to Facebook in 2004 while still in college. I would have never guessed in my wildest dreams that the website would become as valuable as it has.  
When the company first introduced its IPO in May of 2012 I was very skeptical and decided to stay away. Despite the website's popularity, I was unable to see a clear picture of how exactly this "free website" would make money for investors. I failed to recognize (back then) the potential that came from driving revenue from advertisers, marketers, developers, and from the users themselves.
I took some time to do my own research and analysis and decided to start a small position in this company about a month ago. Below are some of the factors that I found most notable and promising and why I've become a shareholder.

I. Significant growth in revenue year over year
I'll start by talking about top line growth, or revenue, for the most recent quarter (first quarter of 2015), which came in at $3.54 billion, a very healthy 42%year over year increase in comparison to the $2.50 billion reported during first quarter 2014. Diving in to a more specific breakdown; revenue from advertising (which is Facebook's main driver of revenueincreased 46% year over year. Mobile advertising revenue (in simpler terms, revenue from people using Facebook from their smart phones) represented a staggering 73% of the total advertising revenue, an increase of 59% on a year over year basis.
The increase in revenue is not an outlier. Facebook has been reporting healthy revenue increases year over year since becoming publicly traded:

QuarterRevenueYear over Year Increase
Second Quarter 20121.18 Billion32%
Second Quarter 20131.25 Billion53%
Second Quarter 20142.91 Billion61%
First Quarter 20153.54 Billion42%
*Data obtained from FB investor relations website, financial press releases.

II. Exciting uphill trends in Facebook's Daily & Monthly Active Users
If you were wondering whether the above noted data makes any sense; it may be good to look in to how daily active users coming from mobile are increasing quarter after quarter. Facebook reported that DAU (number of people using Facebook daily) increase by 17% year over year to 936 million people. Monthly active users increased 13% year over year to 1.4 billion.

When we look at mobile active users is when things really get interesting. If you take a closer look at FB quarterly reports, you may notice the company didn't officially start reporting number of Mobile Daily Active Users until 2nd quarter 2014 (the metric was originally embedded within daily active users numbers and reported on a monthly basis). I can only deduct that this metric has become too important to ignore and thus, it has earned its own special category in Facebook's earnings reports.
For first quarter 2015; Mobile daily active users came in at 798 million on average, an increase of 31% year over year. Mobile monthly active users came in at 1.25 billion, also increasing by 24% on a year over year basis.

III. The Future of Mobile: Why is growth in Mobile revenue important?
A 2013 study by International Data Corporation (IDC), found that 79% of the population keeps their smartphone at arms length for about 22 hours per day. The data shows that eventually, about one out of four people will have their phones at arms length 100% of the time. In terms of what are exactly people doing with their phones- 16% of the time is spent on phone calls while 84% is spent on other activities including browsing the web, email, social applications, watching videos or playing games.
The same study showed that after checking their email, people spent most of their time on their Facebook application. As per the IDC, while 78% of the time is spent on email, 70% is spent on Facebook for those people with a smartphone.
It is expected that by 2018; mobile data traffic will increase at an annual growth rate of 61%.

IV. The Future of Marketing and Advertising
The marketing budget of mayor corporations allocates only a very small percentage to Facebook advertising representing tremendous amount of opportunity for further revenue growth as companies catch up to rapidly changing times in advertising techniques that may be more efficient, strategic and may provide a more significant return on investment.
research study conducted by Mondo entitled: "The Future of Digital Marketing", released in January of this year, showed that 80% of companies plan to increase their digital marketing budgets within the subsequent 12-18 months. The demand for hiring the best talent within this niche is reinforced by the findings which indicated that the top skills companies are looking to hire for this year includes digital/social (54%), content creation (44%), big data/analytics (33%) and mobile strategy (30%). The way things are moving in this industry, I can only see these number continue to ascend in the years going forward.

V. Other factors to consider

  • Where is the Money going? Research & Development
The hefty increase in cost and expenses reported by the company in the most recent quarter may scare many. There is no denying that Facebook competes within a fiercely competitive technology industry and it's ability to maintain its competitive advantage significantly depends in it remaining relevant and innovative. Hence, it should come to no surprise that the company spends heavily in hiring talent that is able to develop new products and/or maintain an infrastructure that is constantly providing value for the customers Facebook serves including users, marketers and developers.
The company reported a 88% increase in R&D expenses year over year from 2013 to 2014. Same was attributed to the following: "The increase was primarily due to an increase of $724 million in share-based compensation expense compared to 2013, and an increase in other payroll and benefits expense resulting from a 48% growth in employee headcount from December 31, 2013 to December 31, 2014 in engineering and other technical functions. Share-based compensation expense also increased due to the acquisitions we completed in 2014."
Facebook relies heavily in human capital and thus, these type of expenses do not scare me and should not deter you either. Without solid talent, the company would be unlikely to continue growing to its utmost potential.

  • Valuation
The stock's current valuation may come across as too rich for many. Company trades at a P/E of 80x earnings, forward P/E of 32.4x earnings and the stock price is at about 4% from its 52-week high. For comparison purposes, the S&P 500 current P/E is at a ballpark of 18.5x earnings. In terms of companies in a 'similar' industry (because, lets face it, there is really nothing like Facebook) Google's (NASDAQ: GOOG/GOOGL) currently trades with P/E of 26.5X earnings and forward P/E of 16.5.

Final thoughts 
Based on extensive amount of research, it is my opinion that Facebook presents solid upwards potential, especially for long term investors. The company is well positioned when it comes to mobile usage and what they can offer advertisers. The face of marketing is changing drastically and when corporations fully catch up, Facebook will be there to benefit.
Although the company's costs are increasing rapidly, the continuous strategic investments in research and development is something that is indispensable to ensure the company remains competitive, continues to grow, and remains a leader within its industry.
As with any company, no success is ever guaranteed and no one has a crystal ball about what the future may bring. I'll continue keeping an eye on trends including daily active users across the board, revenue growth, and how the company spends their money- either through strategic acquisitions and/or continuous improvement of the company's infrastructure to better serve all different segments in which Facebook is involved. As long as my original thesis for this company stays the same, I may continue adding to my position during pull back and/or market corrections.

Tell me, what are YOUR thoughts on Facebook as an investment?

***

Disclosure: LONG on FB, GOOG/GOOGL
*Never invest or cease to invest based solely on the information provided on this blog. 

Friday, June 5, 2015

How to find profitable companies: My Personal Strategy for Picking Stocks

I have always believed that investing is very personal. We each have our own individual strategies that work for us and with which we feel comfortable. Some people thrive with trading and truly enjoy the process of looking at charts, buying and selling stocks all day, with no attachment whatsoever.

Others (like myself) actually enjoy the idea of being a "part owner" of a company for a while and benefiting from that through dividends and stock price appreciation over time.




I recall a very intelligent finance professor I had in graduate school whom shared with the class that he could never be a long term investor. He said the longest he has ever held a stock in in his life was about 2 weeks and he lost so much money he went back to trading, which is something he is good at.

As you can see-- whether you are a long term or short term investor, someone just starting out, a college professor, or anything in between; what is important is to know yourself and your risk tolerance. I explained in a past post why I prefer long term investing over trading (check it out here if you missed it).

So anyways, the other day I took a close look at my portfolios and realized that nearly every single company in which I have shares (specially those stocks with the highest return on investment) have very specific factors in common. I decided to share them here and see whether we all agree or disagree on said factors. 

Also, would love to learn more about other people's strategies when it comes to choosing stocks (for the long term or short term) and what works for others. 




Here's what I look at when choosing 'winning' stocks (with some examples):

1. Leadership position within the company's respective industry (I.e:. largest market share and/or highest level of popularity/following among consumers).


For instance, Apple (AAPL) V. Android. Have you ever witnessed hundreds or thousands of people making a line weeks in advance for an Android phone? How about for an Apple devise? This is what's ironic- Android has the highest market share in hand held devices worldwide V. IOs, by a substantial amount. According to a study by the International Data Corporation published in August 2014; Apple's market share for the iOS is a mere 11.7% while android's market share is an staggering 84.7%.  

How is it that Apple (iOS) system is more popular and more profitable?The market share situation is offset in part due to the fact that Apple's products are a lot more expensive than Android. The combination of their pricing power and brand is so strong, that most individuals have no problem paying a premium for Apple and this is why it's become one of the most powerful companies and brands in the world-  "Apple charges much more for its phones than Android's maker's do, and takes a huge profit of the world's smartphone profits by doing so. Apple doesn't actually want buyers who seek the cheapest, least-profitable phones. And its customers tend not to want Android products". Source

2. Clear, specified plans on how the company will maintain their competitive advantage through ongoing innovation, growth, and further developments.


Google (GOOG), for instance, is a company that has been "morphing" slowly but surely over time. Although it remains the king of advertising, this is something that is slowly changing due to competition. Nonetheless, Google has very exciting and clear plans on how they will continue innovating the world and this is demonstrated each and every time they launch a new project to the public. New developments and upcoming launches were announced in their most recent I/O conference.

3. Several years of existence in their industry (sometimes centuries) and the ability to adapt in changing times. Companies like Johnson & Johnson (JNJ) fall in to this category. This is a company with a portfolio of hygiene and health care products that has gained the trust of consumer and is a trend that has continued generation after generation. The company has been around for 120 years and counting. 


4. Very little competition, if any- Disney (DIS), for instance, I see as a stand alone company with a very unique positioning in terms of the industries where it competes. A couple of other companies in this category include Visa (V) and Mastercard (MA), these companies have a semi-duopoly when it comes to the payment processing industry.

5. Companies that sell products of provide services that people need regardless of what may be going on in the economy or in the world.

Whether or not the world or the economy may be falling apart, we all need to brush our teeth, wash our face, wash our hair. Companies like Colgate (CL) and Procter & Gamble (PG), just to name a couple, are the type of long term investments that can help us hedge against downturns in the economy

6. Healthy financial statements (including minimal debt, if any, top line and bottom line growth year over year through a good amount of time). A good rule of thumb question to look in to- How did this company perform during the financial crisis?


7. Company pays dividends- I am a huge advocate for dividends. Dividends are awesome for obvious reasons-- not only can you benefit from stock price appreciation but the company also pays you ever 3 months for holding shares. Doesn't get any better than that. I would say about 80% of the companies in my portfolio and those I manage pay dividends.

8. The leadership, management, and company's culture- I strongly believe the management team is just as important as anything else when it comes to evaluating a company. I sometimes look at factors on whether or not the founders of the company are still part of the board, how long management has been in place, the compensation package for CEO and executive board (you can find that by reading the proxy statement of any company), age of the CEO and its commitment to the company, are benefits packages tied to company's performance or irrelevant? these are just some of the factors that may be important to look in to simply to ensure that the people leading the company are equally (or more)  invested in the company's long term success as the shareholders. 


My Thoughts on Valuation: This is a more advanced topic which I will discuss in an upcoming post as I'd like to explain the basics to my investing 101 followers before I get in to more technical information. Nonetheless, my general opinion on valuation is that it is not the end all be all when it comes to choosing stocks and sometimes valuation numbers take a back seat when it comes to exploring the true value of a possible investment. For instance, if investors would have focused on valuation when companies like Amazon (AMZN) first came out, they would have missed out on the fact that the stock price has ascended over 1,000% since its IPO. Why? because there was nothing like Amazon when it first entered the market and so, 'skepticism', about future prospects yet a promising hope for the tech giant caused valuation to scare away many. This great post by NYU professor Damodaran provides some additional insights on the topic. 

Now, let this simmer in for a while-- had you invested $1,000 in AMZN back in 1996, you would have about $247,540 sitting in your portfolio today. Hence, although valuation is important, investors should be careful in letting it determine whether or not they invest on something and it depends highly on the type of company and industry we may be analyzing. 

And that's all folks! Keep in mind that the above noted points are not the end all be all in terms of metrics to look at when investing in a company. Every company is different and things can change drastically forcing us to look at other important factors. It is important to be flexible and adjust. However, these are some of the factors I look at and what has worked for me personally.



Tell me, What is your investing strategy? what factors are important to YOU?


Thanks for reading & Cheers to profits!

Mabel

Disclosure: I am long on AAPL, GOOG/GOOGL, CL, PG, MA, V, DIS, JNJ.
Do not invest or cease to invest solely based on the information in this post.