Thursday, February 4, 2016

Does Facebook Have a Moat?

I read an article by fellow blogger Dividend Growth Investor mentioning towards the end that Facebook did not have a moat. The topic is a good one as Facebook hits 12 years of age today. Facebook has already become one of the largest companies in the world by market cap. Definitely no small feat. So today I'll go over some basic reasons why Facebook does have a moat, and why it took such a short time to build it.

A moat was popularized by Warren Buffet in his discussions about companies with a competitive advantage. A moat, or competitive advantage, is found in two basic business models. You either sell a unique product or service, or you are a low cost buyer and seller of a product the public consistently needs(necessitating brand power). Examples of each would be Precision Castparts,Visa, Procter & Gamble, and Budweiser.  Precision Castpart's can skillfully make complex aerospace components while enjoying the advantage of high barriers to entry.  Visa has a unique service that allows it to process transactions anywhere in the world within seconds along with the arduous task of identifying fraud. Procter & Gamble has brand name advantages built up over decades to sell consumers products they need everyday. Budweiser is a mix of being a low cost producer/seller and brand name owner of beer people drink everyday.

So where does that leave us with Facebook?

Let's start with their product/service being unique.  Facebook offers a service in a relatively new field. Social Networking.  It's a unique area not invented by FB, but revolutionized the way it was done. Their product offering allows you to seamlessly connect with people worldwide.  You can share your own information, posts updates, share info from people within your network, and interact with anyone you choose.  This can be done with multiple platforms. Facebook Messenger allows you to chat and even call anyone worldwide. Whats-App allows you to call and text anyone else on the service worldwide. This service is especially useful if you have a WiFi connection as you can avoid any network charges or fees. Instagram is an app that lets people quickly take professional quality photos and share it via their social networks. This app actually allows you to create your own photo sharing brand by virtue of the way its designed to let you have followers. Oculus is in a young virtual reality field. At this point in time its to hard to tell if the company retains a competitive technology, price, or brand advantage. Additionally Facebook has recently ventured into an area that allows users to purchase within the platform goods from companies they choose to interact with. While still a growing area this has the potential to be very large and valuable to many companies.

Facebook is also a low cost buyer and seller of products and services.Their service is actually free across almost all their platforms(Oculus will charge for it's products). It's free because advertisers actually pay the bill for the right to advertise to you. Even for the advertisers the amount they spend on advertising to reach the same amount of people is considerably lower than traditional media outlets. Also Facebook needs to spend zero dollars to gather the information it sells to advertisers. You actually give your information away for free in order to use their services. This is a huge cost advantage over traditional media/information/advertising companies. It's the main reason operating margins are over 80%. They have minimal costs for acquiring what they sell.

What about the Facebook brand?  Well according to Forbes Facebook comes in as the worlds 10th most valuable brand. This means it's easily recognizable by people all over the world and right up there with companies that have been around for 100 years or more. All this in under 12 years. I'd be interested to see if Coca Cola or Budweiser achieved the same status in less time. Although I'm inclined to think they did not.

I'd still love to buy more shares of FB when the valuation is better. But as far as the company being around for awhile I have zero concerns.  It seems their advantage will not recede anytime soon and can possibly become even stronger.

The Long Haul Investor

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