Buy Facebook, P&G's CEO Told You To

13 Feb, 2012

Buy Facebook.  I don't care what the IPO price is.

Since Facebook informed us it was going public, and it's estimated IPO valuation was reported, debate has raged over whether the company could possibly be worth $75-$100B.  Almost nobody writes that Facebook is undervalued, but many question whether it is overvalued.

If you are a trader, moving in and out of positions monthly and using options to leverage short-term price swings then this article is not for you.  But, if you are an investor, someone who holds most stock purchases for a year or longer, then Facebook's IPO may be undervalued.  The longer you can hold it, the more you'll likely make.  Buy it in your IRA if possible, then let it build you a nice nest egg.

About 85% of Facebook's nearly $4B revenues, which almost doubled in 2011, are from advertising.  Sounderstanding advertising is critical to knowing why you want to buy, and hold, Facebook.

Facebook has 28% of the on-line display ad market, but only 5% of all on-line advertising.  On-line advertising itself is generally predicted to grow at 16%/year.  But there is a tremendous case to be made that the market will grow a whole lot faster, and Facebook's share will become a whole lot larger.

At the end of January Proctor & Gamble's stock took a hit as earnings missed expectations, and the CEO projected a tough year going forward.  He announced 1,600 layoffs, many in marketing, as he admitted the ad budget was going to be "moderated" – code for cut.  While advertising had grown at 24%/year sales were only growing at 6%.  He then admitted that the "efficiency" of on-line advertising was demonstrating the ability to be much higher than traditional advertising.  In other words, he is planning to cut traditional marketing and advertising, such as coupon printing and ads in newspapers and television, and spend more on-line.

P&G spends about $10B/year on advertising.  2.5x the Facebook revenue.  Now, imagine if P&G moves 10% – or 25% – of its advertising from television (which is now a $250B market) on-line.  That is $1-$2.5B per year, from just one company!  Such a "marginal" move, by just one company, adds 1-3% to the total on-line market.  Now, magnify that across Unilever, Danon, Kimberly-Clark, Colgate, Avon, Coke, Pepsi …… the 200 or 300 largest advertisers and it becomes a REALLY BIG number.

The trend is clear.  People spend less time watching TV and reading newspapers.  We all interact with information and entertainment more and more on computers and mobile devices.  Ad declines have already killed newspapers, and television is on the precipice of following its print brethren.  The market shift toward advertising on-line will continue, and the trend is bound to accelerate.

Last year P&G launched an on-line marketing program for Old Spice.  The CEO singled out the 1.8 billion freeimpressions that received on-line. When the CEO of one of the world's largest advertisers takes note, and says he's going to move that way, you can bet everyone is going to head that direction.  Especially as they recognize the poor "efficiency" of traditional media spending.

And don't forget the thousands of small businesses that have much smaller budgets.  Most of them rarely, or never, could afford traditional media.  On-line is not only more effective, but far cheaper.  Especially as mobile devices makes local marketing even more targeted and effective.  So as big companies shift to on-line we can expect small to medium sized businesses to shift as well, and new advertisers are being created which will expand the market even further.  This trend could lead to a much faster organic market growth rate beyond 16% – perhaps 25% or even more!

Which brings us back to Facebook, which will be the primary beneficiary of this market shift.

Facebook is rapidly catching up with Google in the referral business.  850 million users is important, because it shows the ability Facebook has to bring people on-line, keep them on-line and then refer them somewhere.  The kind of thing that made Google famous, big and valuable with search a decade ago.  In fact, people spend much more time on Facebook than they do Google.  When advertisers want to reach their audience they go where the people are (and are being referred) and that is Facebook.  Nobody else is even close.

The good thing about having a big user base, and one that shares information, is the ability to gather data.  Just like Google kept all those billions of searches to analyze and share data, increasingly Facebook is able to do the same.  Facebook will be able to tell advertisers how people interact, how they move between pages, what keeps them on a page and what leads to buying behavior.  Facebook uses this data to help users be more effective, just like Google does to help us do great searches.  But in the future Facebook can package and sell this data to advertisers, helping  them be more effective, and they can use it for selling, and placing, ads.

Facebook usage is dominant in social media, but becoming more dominant in all internet use.  Like how Windows became the dominant platform for PC users, Facebook is well on its way to being the platform for how we use the web.  Email will be less necessary as we communicate across Facebook with those we really want to know.  Information on topics of interest will stream to us through Facebook because we select them, or our friends refer them.  Solving problems will use referrals more, and searching less.  The platform will help us be much more efficient at using the internet, and that reinforces more usage and more users.  All the while attracting more advertisers.

The big losers will be traditional media.  We may watch sports live, but increasingly we'll be unwilling to watch streaming TV as the networks trained boomers.  Companies like NBC will suffer just as newspaper giants such as Tribune Corp., New York Times and Dow Jones.  Ad agencies will have a very tough time, as ad budgets drop their placement fees will decline concomittantly.  Lavish spending on big budget ads will also decline.

Anyone in on-line advertising is likely to be a winner initially.  Linked-in, Twitter, Pinterest and Google will all benefit from the market shift.  But the biggest winner of all will be Facebook.

What if the on-line ad market grows 25%/year (think not possible? look at how fast the smartphone and tablet markets have grown while PC sales have stagnated last 2 years as that market shifted.  And don't forget that incremental amount could easily happen just by the top 50 CPG companies moving 10% of their budget!)?   That adds $20-$25B incrementally.  If Facebook's share shifts from 5% to 10% that would add $2-2.5B to Facebook first year; more than 50%!

Blow those numbers up just a bit more.  Say double on-line advertising and give Facebook 20% share as people drop email and traditional search for Facebook – plus mobile device use continues escalating.  Facebook revenues could double up, or more, for several years as trends obsolete newspapers, magazines, televisions, radios, PCs and traditional thoughts about advertising.

If you missed out on AT&T in the 1950s, IBM in the 1960s, Microsoft in 1980, or Apple in 2000, don't miss this one.  Forget about all those spreadsheets and short-term analyst forecasts and buy the trend.  Buy Facebook.

(Adam Hartung is Managing Partner at Spark Partners, a strategy and transformation consultancy.)