I don't want you to buy Facebook (FB) . I don't care if you buy it or not. I just want you to listen why we tell members of the Action Alerts PLUS club to own it: This company has perhaps the best business model of all time.
What defines a good business model to me? When you have an amazing product that is loved and in demand worldwide and it costs very little to produce and has no serious competition.
Why do I say that? First, quality content, content you want to look at, costs fortunes to develop. I know this. I am in the content business. The single biggest worry investors seem to have about anyone in the content business is runaway costs.
Facebook? You bear the cost of content. The paradigm's upside down. They simply distribute it and make money off it. What a business! In fact, the more content, the more advertisers want it. The biggest problem I think Facebook has? I wonder if they have enough salespeople to handle the business that comes their way. Now that's a high-quality problem.
How much business? For this quarter, Facebook has advertising revenues of $8.63 billion, up 53%, much better than the so-called consensus thought they could do, meaning what the analysts believed they would make. They have an extraordinary 64% gross margin, what they make after all their costs, a phenomenal figure.
Why do advertisers love it so much? Engagement. FB has 1.23 billion daily active users, including the coveted younger demographic of 400 million daily active users of Instagram. Oh, and in case you are wondering if Snap can take them on, that company, which is about to come public, has (of latest date) 150 million daily actives. We will probably see a much higher number when we get their documents, but suffice it to say this is hardly a zero-sum game. The pie's growing like mad.
Now here's what steams me. When you see earnings like Facebook delivered last night, $1.41 a share versus the $1.31 the Street was looking for, you can extrapolate that they might do about $6 this year and, at this pace, perhaps $7 next year. This is a company with revenues that are growing at 53% and it sells at 19x next year's earnings. If you give it a ridiculously low multiple of half of its growth rate, you would get a stock worth $175.
So then what's the deal? How come investors aren't paying that now? Three reasons: First, they don't think it is sustainable because it's all based on advertising spend. Second, because the company raised how much it is going to spend to handle all its customers and user demand. Third, because they somehow view this hard-nosed company as one run by dreamers.
Let me refute each one: First, remember when Apple (AAPL) was viewed as a one-product company, therefore worth so much less than it is selling now? Oh well, it turns out the one product has a lot more revenues away from the device itself. So will Facebook. Two, spending to meet demand, as they are, is a real high-quality problem. Three: These are the smartest guys in the room. They are firing the puck not at where the man is but where he is going to be. They know that video is where it's at and that cellphones will soon be at 5G, where video's as fast as TV but with better quality. Advertisers will go nuts for where CEO Mark Zuckerberg and company are going. They just don't know it yet. You don't believe me? Go ask your kids what they are clamoring for. But even they won't believe how high-quality it will be, nor will the advertisers. (Facebook and Apple are part of TheStreet's Action Alerts PLUS portfolio.)
So go sell one of the cheapest stocks in the market. Go dump one of the greatest stories of all time. My trust, which has owned this stock for about 100 points, isn't selling. We just don't own many other companies with such a bright future, especially ones that sell at such a low price versus almost every other stock in the market. Do you?