How Does Facebook Make Money: Earnings Report 2018

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Facebook is one of the technology giants and is dominating the social media market with Facebook.com, Instagram, Messenger, and WhatsUp. The year 2018 wasn’t the easiest one for Facebook since they were under a lot of regulatory and media pressure. However, Facebook financials don’t really show it and the company did quite well in 2018. Let me walk you through its financial results.

How Does Facebook Make Money - Summary

Facebook is making money mainly from advertising which makes 99% of its revenue. Facebook generated $55.8bn (+37%) of annual revenues in 2018. Nearly all of it came from advertising and only “tiny” amount of $0.8bn (1% of total revenue) was from other sources. Other sources are net fees coming from Facebook Payments and also revenue from consumer hardware (Oculus and Portal). Mobile advertising revenue represented approximately 92% of total advertising revenue in 2018.

Summarized income statement (P&L) for Facebook, Inc.

(in millions $) 2016 2017 2018 2018 % Growth
Revenue 27.6 40.7 55.8 +37%
Expenses -15.2 -20.5 -30.9 +51%
Operating Income 12.4 20.2 24.9 +23%
Other 0.1 0.4 0.4 +15%
Taxes -2.3 -4.7 -3.2 -30%
Net income 10.2 15.9 22.1 +39%
Summarized annual income statement (P&L) visualization for Facebook. Based on its 2018 earnings report

Revenue grew by 37% compared to last year which is good news, but the company’s revenue is just one piece of Facebook’s net income. Above is a summary of Facebook’s P&L that shows that net income growth was strong (+39%) and Facebook made $22.1bn of annual net income in 2018.

The problem is that although the bottom line result is excellent, not everything looks so rosy when you look at operating income, which increased “only” by +23%. A massive increase in expenses (51%) diluted Facebook’s operating income growth. You can’t see this dilution on the net income line, because the tax line decreased significantly compared to last year when the new Tax Code negatively impacted it.

Other key metrics for Facebook, Inc.

  2016 2017 2018 2018 % Growth
Operating margin 45% 50% 45% -
EPS (Earnings per share) diluted $3.49 $5.39 $7.57 +40%

Revenue growth of 37% together with high starting operating income margin (50%) meant that Facebook grew in operating income by 23% even though its costs & expenses rose by 51%. Result for shareholders was an earning per share of $7.57.

Facebook (fb) stock price history over the last three years

The focus of this article is a review of Facebook’s business based on its financial statements and I will not spend too much time talking about Facebook stock price or its valuation. But it makes sense to show at least this chart with Facebook’s stock price development over the last 3 years, to give you some historical context. One bar in the chart represents one week.

Facebook (FB) stock price historical development over last three years

Facebook’s Income Statement Visualization

The following waterfall chart is a more detailed visualization of the facebook income statement and should help you understand the proportion between different items and highlight the main changes compared to the previous year. Below the chart, I will walk you through Facebook’s results and give more detailed breakdown.

If you haven’t encountered this chart before and are not familiar with it, I recommend going through my post explaining how and why I prefer to show P&L statement in this form.

Income statement (P&L) visualization for Facebook, Inc. (waterfall chart)

How Does Facebook Generate Revenue?

Facebook’s revenue grew by 37% in 2018 to $55.8 billion. Relative growth in revenue was quite evenly spread out between different regions except for Asia-Pacific region where revenue increased by 48%. But the core question is what exactly is driving this growth.

How much revenue does Facebook generate in different geographic regions

(in billions $) 2016 2017 2018 2018 % Growth
US & Canada 13.4 19.1 25.7 +35%
Europe 6.8 10.1 13.6 +35%
Asia-Pacific 5 7.9 11.7 +48%
Rest of the World 2.4 3.5 4.7 +34%
Worldwide 27.6 40.7 55.8 +37%

In general, Facebook can earn more revenue by increasing the number of active users or increasing user monetization (revenue per user). User monetization can be split further into an increase in price per add and an increase in the number of ads per user. So let’s break it down using 2018 earnings numbers.

The growth of Facebook revenue (+ 37%) in 2018 was driven by:

  • 9% increase in active users
  • 24% increase in revenue per user (Facebook made $24.96 per active user in 2018)
    • 13% increase in price per add
    • 10% increase in adds delivered per user

Wait a minute, isn’t it in all the news that Facebook’s number of users is plateauing because people are fed up with it and are closing their accounts? Well, it wouldn’t be the first nor the last time news outlets exaggerated something, but although on overall numbers you can see that active users are growing, they are not growing in the same rate in all geographical regions that Facebook reports.

Monthly active users (MAU) by geographic region

The table below includes only monthly active users for facebook.com and Messenger as of December. Counted as of the end of December in each year. Users who have only used Instagram or WhatsUp are not included.

(in millions) 2016 2017 2018 2018 % Growth
US & Canada 231 239 242 +1%
Europe 349 370 381 +3%
Asia-Pacific 673 828 947 +14%
Rest of the World 606 692 750 +9%
Worldwide 1,860 2,129 2,320 +9%

In developed markets, active users grew only around 2-3% in 2018, which might be called plateauing, but thanks to higher growth in revenues per user compared to other regions (+34%) they still perform pretty well in revenue growth.

The most substantial growth was in the Asia-Pacific region, where key sources of growth are India, Indonesia, and the Philippines. In countries outside the US, Canada, and Europe, the number of active users grew by 12% in 2018 and revenues per user by 20%.

How much money does Facebook make per user: Average revenue per user by geographic region (ARPU).

  2016 2017 2018 2018 % Growth
US & Canada $62.23 $84.41 $111.97 +33%
Europe $19.41 $27.41 $36.68 +34%
Asia-Pacific $7.29 $8.92 $10.71 +20%
Rest of the World $4.66 $6.2 $7.52 +21%
Worldwide $15.98 $20.21 $24.96 +24%

Key highlights of Facebook revenue breakdown

  • Revenue increased by 37% (+ $15.2bn) in 2018. This growth was balances across all regions, only Asia-Pacific overperformed, growing by 48%.
  • Monthly active users (MAU) grew by 9% in 2018. There was minimal growth in Europe and the US (1% vs 3%) and quite a strong growth (+12%) in the rest of the world.
  • Higher growth in revenue per user in the US, Canada & Europe compared to the rest of the word helped to offset slow growth in active users in these regions.
  • The US & Europe make 70% of Revenue but only 27% of monthly active users.
  • Average revenue per user in 2018 in the United States & Canada region was $112, which is more than 10x of revenue per user in the Asia-Pacific region.

Will Facebook revenue growth decelerate in 2019?

So what should you make of it? You can see a glass half full because there might be a significant potential of monetization growth outside the US and Europe. On the other hand, you can see the glass half empty because Facebook is struggling with monetization outside developed markets and you don’t believe it is going to get better.

During 2018 Q4 earnings call, the core message from Mark Zuckerberg aside from security was about focus on messaging and commerce and shopping on Instagram. However, there is big uncertainty about how much time it will take before it starts to be a significant revenue contributor.

“In Instagram, one of the areas I’m most excited about this year is commerce and shopping. There’s a lot of natural activity happening here, and this year I expect us to deliver some qualitatively new experiences around that.”

—Mark Zuckerberg, CEO of Facebook, Q4 2018 Earnings Call

Even if you are an optimist, things are probably not going to change in 2019. That is also a message from Facebook’s CFO David Wehner, who said it quite clearly during the company’s Q4 earnings call.

“We also expect that our revenue growth rates will continue to decelerate sequentially throughout 2019 on a constant currency basis.”

—David Wehner, CFO of Facebook, Q4 2018 Earnings Call

How Does Facebook Spend Money?

To make money, you have to spend money and Facebook is spending significantly more than last year. Total expenses increased by +51% (+$10.4bn). Two main reasons behind this growth are massive investments in data centers, technical infrastructure and enormous growth in the number of employees.

How much money and on what is Facebook spending

(in billions $) 2016 2017 2018 2018 % Growth
Cost of revenue -3.8 -5.5 -9.4 +72%
R&D expense -5.9 -7.8 -10.3 +32%
Marketing and sales expense -3.8 -4.7 -7.8 +66%
General and admin. expense -1.7 -2.5 -3.5 +37%
Total Expenses -15.2 -20.5 -30.9 +51%
  • Cost of revenues is an item with the highest annual growth and its increase was driven mainly by an increase in operating expenses related to data centers, technical infrastructure and higher costs associated with partnership agreements (traffic acquisition and content acquisition costs)

  • Other expense items were growing mainly thanks to share-based compensation and growth in headcount. This growth was in line with revenue growth except for marketing and sales expense that is growing quicker thanks to the increase in investments into marketing and community operations. Without that, the marketing expense increase would be in line with revenue growth.

How many employees does Facebook have

Headcount of Facebook grew massively. Facebook had 35,587 employees at the end of 2018. An increase of a staggering 42% in one year

  2016 2017 2018 2018 % Growth
Employees 17,048 25,105 35,587 +42%

High expense growth will continue in 2019

Facebook will continue to invest in its data centers in 2018 heavily and also continue growing its headcount. That was management guidance during the company’s Q4 earnings call.

On a full-year basis, we continue to expect 2019 total expenses will grow approximately 40-50% compared to 2018.

Our 2019 capital expenditures outlook is unchanged at $18-$20 billion, driven primarily by our continued large investment in building data centers.

–David Wehner, CFO of Facebook, Q4 2018 Earnings Call

2019 Outlook

So in 2018 Facebook showed solid financial results. However, Facebook guidance is that revenue growth will decelerate in 2019. Not only that, but the company also said that they expect its expenses to continue to grow strongly in 2019 (by 40-50%). As you can expect, revenue growth below 30% and expenses growth of 50% means none or a quite small increase in operating income.

So what do you think? Will Facebook positively surprise again in 2019?

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