Facebook stock plummeted on Thursday after the company vowed to scale back the number of advertisements on its site next year. But will the decreased ads really damage the Social Network the way knee-jerk investors seem to think?
Advertising dollars are Facebook’s bread and butter—97% of its total revenue comes from ads. During the company’s third-quarter earnings call on Wednesday, however, Facebook (FB) revealed its intentions to cut back on the number of ads on its site starting in the second half of 2017. Which prompts the question: How will it make up for those lost dollars?
The company hasn’t provided an answer yet, which is why the stock was down as much as 7% yesterday. So, let’s take Facebook’s plan in context.
According to eMarketer, it’s the No. 2 ad publisher in the world behind Google (GOOGL). Facebook has been increasing the ad volume on its site so much, in fact, that the site has actually reached its maximum ad load. Along with user count and engagement growth, increases in the number of ads have been a big part of Facebook’s growth in recent years.
But there are downsides to that growth. To some users, the sheer number of ads on their Facebook page or Instagram (which Facebook owns) feed might be a turnoff, especially now that mobile accounts for 84% of the company’s total ad revenue. User growth is a big reason why Facebook is still growing like a startup after all these years, and I’m sure it won’t hurt that growth if new users see a few less ads when they sign up.
Here’s the thing: Facebook has known it was going to reach its advertising ceiling for quite some time. Chief Financial Officer David Wehner warned it was coming during the company’s second-quarter earnings call. They undoubtedly have a plan to fill the void in decreased advertising dollars. Instagram just started making money recently; soon enough, the company will figure out how to monetize recent purchases such as WhatsApp and Oculus. And with more than $23 billion of cash still in its coffers, there are sure to be more big-ticket purchases to come.
And though it’s getting overshadowed by ad-load limits, Facebook’s earnings were stellar last quarter: Sales were up 56% year over year, while profits grew a whopping 166%, both of which were roughly in line with the growth of the previous three quarters. Few, if any, well-established blue-chip companies can match that growth.
Bottom line: even with fewer ads, Facebook as a company will be just fine—and so will Facebook stock. FB is still up 15% in 2016 even after yesterday’s comedown. It still trades at a mere 23 times forward earnings estimates, which is quite low for a big tech company with that kind of growth. The way I see it, this brief dip is an excellent buying opportunity in one of the world’s great growth stocks.
Overreaction is in Wall Street’s DNA. When investors hear the words “ad revenue growth rates come down meaningfully” from a company CFO, they understandably panic. Eventually, however—perhaps as early as next week after the election—Facebook stock will bounce back because all the panickers have been weeded out.
Buy Facebook stock on the bad ad-load headlines now, and thank me when the news is all but forgotten a year from now.
