While Facebook Inc. (FB) kicked off the month on a high note with a surprisingly strong first-quarter earnings announcement, the stock has been downhill ever since. In fact, this week FB retreated to its lowest level of the year. This is all while the Dow and the S&P 500 are both up over 15% year to date. To add insult to injury, competitor Google Inc. (GOOG) has advanced 22% this year and LinkedIn Corp. (LNKD) has soared nearly 50%.
Why aren’t investors clicking the “Like” button? Well, lately the company has been making headlines, and not in a good way.
Just this afternoon, the Securities and Exchange Commission (SEC) announced that Nasdaq will pay a hefty $10 billion penalty for mishandling the Facebook IPO, which was plagued with technical problems. This is the most an exchange has ever been charged for violating securities law. As a result of the setback, Nasdaq’s CEO Robert Greifeld’s bonus will be cut by nearly two-thirds compared with last year.
Also, over the past week, Facebook has been targeted by activists for its failure to remove hate speech—particularly against women—from the social network. This outcry caused such a stir that some 13 advertisers pulled their brands off Facebook in response. So earlier today the company issued an official statement where it acknowledged the need to improve its systems to remove violations of hate speech. It promised to do so by updating its guidelines, increase accountability for Facebook users, and by training its moderators to better recognize offenses.
This was a victory for the activists who flagged the issue, but it’s too soon to tell whether the advertisers will resume business with Facebook anytime soon. And this is a big deal for Facebook because advertising comprises the bulk of its business—in the first quarter it made up a whopping 85% of sales.
My Portfolio Grader Analysis
With all of these issues, it should come as no surprise that when you plug FB into Portfolio Grader, the stock is a D-rated sell. Facebook has now a full year’s worth of earnings announcements under its belt, but the past four quarters have clearly been a struggle for the social network.
Fundamental Grade = C
While Facebook has gotten a handle on its sales for now (A-rated)—having just posted 38% year-over-year growth for the first quarter—its earnings have been flat (C-rated) and its operating margin growth is nonexistent (F-rated). Meanwhile, FB scores poorly on its track record of meeting analyst estimates—it missed the consensus estimate by nearly 8% in the first quarter. Add in mediocre cash flow (C-rated) and poor return on equity (D-rated), and Facebook squeaks by with a C for its overall Fundamental Grade.
Quantitative Grade = D
All the while, institutional investors have all but given up on FB, so buying pressure has dried up. This is essential for determining the stock’s profit potential because the more money that floods into a stock, the more momentum it has to rise. The reverse is true, which is bad news for shareholders of FB.
The Bottom Line
This summer, don’t “lean in” to FB.