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3 Ways Facebook Has 25% More Upside

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Preston Waters

Facebook (FB) has had its share of bumps in the road since going public just over a month ago. One investment bank, however, believes the stock could offer as much as 25% future upside.

Nomura analyst Brian Nowak initiated coverage on the social networking giant with a “buy” rating and a $40 price target, an increase of just over 25% on Thursday’s closing price of $31.84. Despite near-term issues and concerns about being able to monetize its 900 million users, Nomura believes there are three ways Facebook can improve its ability to generate long-term revenue: charging for branded pages, improved advertising units, and generating revenue from mobile.

Facebook generates the majority of its revenue from online advertising (85% in 2011, according to Nowak). As the company continues to roll out new features to keep users engaged, the analyst believes Facebook is likely to continue taking online advertising dollars away from the likes of Yahoo! (YHOO), Google (GOOG), AOL (AOL) and others. He believes Facebook will have $8 billion worth of display revenue by 2016, up from $3.154 billion in 2011, according to the company’s S-1 filing.

Charging for business pages on Facebook is one way Nowak believes the social networker can generate significant revenue. Most businesses now have a Facebook page for their customers to “like,” keeping them informed of the company’s latest news.

If Facebook were to charge branded pages that have over 1 million fans $1 per fan per year, this could generate an additional $1.8 billion worth of revenue in 2014. Nowak cites his belief that Twitter is thought to charge brands between $2.50 and $4.00 per year to tweet to fans, so there is a precedent. “In all, we believe that charging brands for their Facebook pages is the company’s most significant incremental revenue opportunity,” Nowak wrote.

Improving Facebook’s advertising units is another major way to improve monetization, as most of them are still low quality. Adding more full-page size “Takeover” display ads is one way to improve return on investment for advertisers. Facebook has already put ads on its Log out page, another way of improving advertising metrics.

Facebook’s story around video advertisements could also be improved, with less than 1% of the social networker’s ads in video form. Nowak believes Facebook has been wary of video ads because they could fundamentally alter the user experience for the worse. “We believe that Facebook has reservations about increasing the size and interactivity of its advertising spots for this very reason; therefore, we do not expect a rapid and substantial improvement in advertising unit mix in the near term,” he wrote.

The last major area of revenue growth is mobile, something Facebook itself has acknowledged is a big drawback for its revenue growth. The company recently announced its intention to buy Instagram.

Facebook has said that it does not generate any “material revenue” from mobile, as the mobile ad market is still years away from catching up to the display market. It also listed mobile several times amongst its risk factors in its IPO prospectus, so clearly this is a major issue for the Menlo Park, Calif.-based company.

Nomura estimates the total U.S. mobile display market was $560 million at the end of 2011, but expects it to grow 40% per annum until 2014, reaching $1.5 billion.

If Facebook is able to generate new ways to capture mobile advertising dollars as the market matures, this could be a material growth driver for the company. However, Nomura notes this will be a “multiyear, not multiquarter, issue.”

The Street

Preston Waters

Preston Waters

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