Facebook Buy

Coverages Report Summary

BUY rating at target price of USD $332.90
Facebook, Inc. (‘Facebook’ or the ‘Company’) is a technology company that
builds products which enable people to connect and share information
through mobile devices, personal computers, and other surfaces. It is
primarily known for its social media platforms including Facebook, Instagram,
Messenger, WhatsApp, and Oculus. The company’s 2020 revenue, EBITDA,
EBIT, and net income are $86B, $40B, $33B, and $29B, respectively. During
the COVID-19 pandemic, Facebook’s figures soared compared to the previous
year, with revenue increasing 21%. Despite having fierce competitors
continuously seeking to innovate, including Twitter, Google, Tencent, and
Snapchat, Facebook has proven to be highly competitive managed by Mark
Zuckerberg, benefitting from over 2.8 billion monthly active users (most used
General social media platform by the end of 2020), extensive focus on user
Ticker FB experience, as well as from its business strategy focused on establishing
Exchange NASDAQ presence in various branches of e-commerce via acquiring relevant
Industry Technology businesses.
Incorporated USA
Using the DCF and Comparable Company valuation approaches, I reached a BUY rating with an implied share price of USD 332.90
23 April 2021 USD 301.13
(23 April 2021
Market Cap price is USD 301.13, implying an approx. 10% upside potential). Assuming successful vaccine roll-out and strong
USD 856.555B
economic recovery consensus,
Shares Out.
I am confident that users will retain the online shopping behaviours developed during the pandemic,
2,841,674,000
as this Cons.
has Rating
accelerated theBUY shift away from physical stores to digital shopping by approximately five years (The Economist, 2021).
Additionally,
52-weeksFacebook’sUSD low168.3
debt creating further room for innovation (e.g. wearables), increasing its presence in ESG marketing,
– 315.9
and scaling
Beta operations in Asia, represented key pillars of our valuation. The biggest risk is the recent antitrust crackdowns on the
0.72

tech sector, to which we30.34

P/E (TTM) believe Facebook to be the least vulnerable.
EPS (TTM) USD 10.09
Figure 1: Facebook and S&P
Figure 4: Facebook 500 market
key financial data
figures (USD, millions)
Sunny day
USD 400.98 4,50 35
0 0
Target 4,00
30
0
USD 332.90 3,50 0
0 25
Current 3,00 100 0
USD 301.13 0
2,50 520
0 00
2,00 015
Grey sky 0 0
USD 278.16 1,50
0
1,00
0
500 S&P Faceb
0 500 ook
 Company Description
Overview

Facebook, Inc. (‘Facebook’ or the ‘Company’) is a technology company that builds products which enable people to
connect and share information through mobile devices, personal computers, and other surfaces. It is primarily known
for its social media platforms including Facebook, Instagram, Messenger, WhatsApp, and Oculus.

Products and revenue streams

Facebook’s services mainly comprise of social media applications, including Facebook and Instagram, messaging
applications such as Messenger and WhatsApp, and augmented and virtual products from Facebook Reality Labs.
Facebook’s primary revenue stream is represented by providing and managing advertising campaigns for clientele
companies (‘Advertising Revenue’). Additionally, it sells and delivers hardware products and collects fees from
developers using Facebook’s Payments infrastructure (‘Other Revenue’).

Markets and Operating Channel

Facebook mainly operates through offices or data centres located in 30 countries. Being headquartered in Menlo Park,
California, the Company owns 17 data centres and offices in over 80 cities in 30 countries around the world – including
North America, Latin America, the Middle East, Africa, and Asia Pacific. Due to pandemic restrictions, Facebook has
adapted to the remote working environment by increasing its workforce by 30%, reaching 58,604 employees globally.

100000 Figure 2: Facebook revenue by region (USD, millions) Figure 2: Facebook revenue by region (USD, millions)
90000
80000
70000
60000
50000
40000
30000
20000
10000
0

Rest of the World Asia Pacific United States & Canada Europe
Europe United States & Canada Asia Pacific Rest of the World

Financial and Stock Market Performance

LTM Financial Performance (financial statements can be found in excel)

Historically a rapidly growing business - with a 36.8% 5-year revenue CAGR - Facebook's financials for the year ended
31st December 2020 showed a positive result despite the COVID-19 pandemic. Since Facebook generates about 98% of
its revenue from selling advertising placements to marketers, sales have shown an uprise due to a significant increase in
the size and engagement of its active user base because of the pandemic. The Daily Active Users (DAUs) have increased
11% y-o-y, however these numbers are expected to grow at slower rates in the future.

Facebook's total revenues increased by 21.5% to $85.97B, of which the US contributed to the most significant
proportion (44.7%), and revenues from Asia-Pacific saw the highest growth rate (28.83%). The financial statements
also portray
increasing costs of sales and expenses related to marketing and sales, however, the increase in costs associated with
research and development, which have been primarily related to investments in virtual and augmented reality, could
increase the long-term productivity for the company even further.
Key Financial Ratios
Margins 2017 2018 2019 2020 Liquidity 2017 2018 2019 2020
EBITDA 58.10% 53.15% 43.22% 46.58% Debt/equity 0.14 0.16 0.32 0.24
EBIT 50.66% 45.42% 35.10% 38.60% Operating cash flow ratio 6.44 4.17 2.41 2.66
Net income 39.20% 39.60% 26.15% 33.90% Current ratio 12.92 7.19 4.40 5.05
Industry Overview
Overview

Facebook operates in the technology industry, specifically in the software & IT services segment, where its business
model is to generate revenue through advertising.

Short-Mid Term Trend

The COVID-19 pandemic has contributed to an acceleration in the shift of commerce from offline to online and
increasing consumer demand for purchasing products as opposed to services, which in turn have increased demand for
advertising services. It is estimated that the pandemic has accelerated the shift away from physical stores to digital
shopping by approximately five years (The Economist, 2021). Global retail e-commerce sales in 2020 were $4.28 trillion
(16.1% of total global retail sales), and I expect this to continue increasing as the global economy recovers and
populations retain the online shopping behaviours developed during the pandemic. This will lead to marketers further
shifting their advertising campaigns online, contributing to increases in forecasted global spending on digital advertising.
Therefore, the pandemic’s impact on consumer behaviour has acted as a catalyst in bringing forward the earnings
potential of Facebook and other Big Tech firms which boosts their valuations since they will receive cash flows earlier.

Competitor’s actions will also influence Facebook’s short-to-medium-term earnings and cash flows. The recent news of
Apple expanding its advertising business and implementing new privacy rules has a considerable impact on how the
digital advertising industry operates. Apple’s forthcoming software update, iOS 14.5, will ban apps and advertisers from
collecting data about iPhone users without their explicit consent – a move aligned with Apple’s own competitive
interests. I expect most users will decline to be tracked which adversely affects the value Facebook can provide to
advertisers. As a result, this puts downward pressure on Facebook’s advertising revenue. As always, we stay on the side
of conservatism, and have assumed smaller growth (across all geographical reporting regions) starting year 2023 for this
reason. The long-term implications will be discussed shortly.

The current market consensus is that of a robust economic growth fueled by the progress of global vaccination
programs, unprecedented fiscal stimulus packages and ultra-loose monetary policy. The OECD is currently forecasting
global GDP growth at 5.6% this year, an upward revision of more than one percentage point from its forecast in
December 2020; US GDP is expected to increase by 6.5% in 2021. Lockdown restrictions have also increased savings
rates as households have had reduced opportunities to spend; the gradual easing of lockdowns is expected to be met
with an unleash of pent-up demand. Strong growth in the short-medium term is highly likely to be a strong tailwind for
advertising revenue as expenditure on advertising is discretionary for firms meaning that Facebook has a degree of
cyclicality in its revenues. As business and consumer confidence increases worldwide, firms will have greater ability to
afford advertising campaigns, and marketers will have more conviction in their adverts producing returns.

The relaxation of social distancing restrictions, Biden’s enormous $1.9 trillion economic stimulus and the Fed’s loose
monetary policy create an inflationary environment that risks turning into overheating of the economy. Although the
Fed insists they are committed to not raising interest rates before 2023 at the earliest, the financial markets are pricing
in a growing risk of prolonged inflation above the Fed’s average target of 2% and the possibility of higher interest rates in
2022. This has translated into a recent sell-off in US Treasury bonds as rising inflation lowers the real return of holding
bonds since their periodic interest payments are fixed; the US 10 Year Treasury yield rose from 0.93% at the start of
2021 to as high as 1.74% on 31 March. The rise in bond yields puts downwards pressure on equity valuations since it
reduces the present value of cash flows that firms produce. This effect disproportionately impacts Big Tech companies
since the growth of their cash flows is typically further into the future. Therefore, higher than expected inflation and rate
rises will lower the valuations of Facebook and other Big Tech firms in the short term. This has been accounted for in the
valuation through the perpetuity growth rate being the 10 Year Treasury yield, which considers expected inflation and
real interest rates. Moreover, I was more conservative with our cost of capital and discounted the cash flows using a
discount rate of 10.94%.
Valuation Summary
Overall Narrative

Free cash flow for firm (USD millions) 2020A 2021E 2022E 2023E 2024E 2025E 2026E
EBITDA 29,132 36,485 46,291 57,241 69,151 82,751 96,711
Add back: D&A 6,862 11,006 14,844 19,666 25,571 32,610 40,768
Add back: stock-based compensation 6,536 7,912 9,577 11,593 14,034 16,988 20,564
Less: CAPEX (15,065) (22,801) (29,284) (36,789) (45,185) (54,230) (63,571)
Less: changes in net working capital (2,754) 1,875 559 642 737 816 867
Unlevered free cash flow to firm 24,711 34,477 41,987 52,534 64,308 78,934 95,339
Free cash flow margin 28.75% 31.02% 29.41% 29.19% 29.20% 29.86% 30.77%
WACC 10.94%
Perpetuity Growth Rate 1.56%
Terminal Value 1,016,402
Valuation Timeline 0.69 1 1 1 1 1
Free Cash Flow to Firm - 23,655 41,987 52,354 64,308 78,934 1,111,741

Share price calculation for 2021 (USD millions except

share data)
Enterprise value 805,006
Plus: equity investments 6,234
Plus: cash and cash equivalents 17,576
Plus: marketable securities 44,378
Less: debt (16,045)
Equity value 857,149
Shares outstanding
Implied share price (DCF) $301.64
Implied share price (Comps) $379.79
Implied share price –
recommendation (60% DCF, 40% $332.90
Comps)

Figure 7: Unlevered free cash flow breakdown (USD, millions)