Analysis: FB

Shares of Facebook (FB)  are outperforming on Tuesday off of a J.P. Morgan Equity Research analyst note which named the stock one of its best internet ideas for 2019. Coming off a disastrous 2018 that was riddled with varying concerns related to margins, core platform engagement, and data privacy, it is certainly bold to name this a top pick given all the headline risks. After several trims to start our 2018 campaign last year, we ourselves maintained a TWO rating for most the year, first downgrading our rating to a TWO in late March before warming back up to a ONE rating at the end of October here .

So, although FB had a downright disastrous 2018, why does JPMorgan think the stock can turn? The analysts think core FB is "stickier than many think, with recent metrics mostly stable and our proprietary survey work showing solid engagement, while Instagram continues to grow rapidly." Key to the bear thesis against the stock has been expectations of weakening engagement in the core platform, a possible result from user shifts to Instagram, general social media fatigue, or platform avoidance due to data policy concerns. If core user metric trends can remain stable like what the analysts survey suggests, engagement fears would confirm to be overblown.

Second, the analysts think "revenue deceleration is manageable -- we project 26% FXN growth in 2019 & 21% FXN in 2020 -- as demand for core FB remains strong driven by scale & ROI, Instagram revenue is growing fast (we estimate $14B in 2019), & Stories ads are gaining traction." One discussion we have previously stated about Facebook is how important it is to advertisers. Although the company's practices have certainly received negative attention, there has been little evidence to suggest issue has been taken by advertisers because they rely on the platforms to reach their audiences. Affirming this view, the analysts wrote, "We repeatedly hear that markets do not have good alternatives to FB's massive scale and high ROI."

Third, the analysts believe the company's increased operating expenditure growth is already anticipated this year, but "GAAP EPS growth should accelerate into the mid-teens in 2020 as revenue and expenses better align." What this means is that the margin pressure related to capex is already well understood, and its expected moderation in 2020 can re-charge the company's growth story.

Fourth, the analysts see a "compelling" valuation at 16x 2020E GAAP EPS. We haven't disagreed here, and the stock's low valuation relative to its growth potential has been a key reason why we have held on to the stock through its painfully disappointing 2H2018.

Again, we believe this note is helping shares outperform on Tuesday, and today's move is an extension of what we have seen so far this year (shares are up about 8.5% year to date). Further helping the stock's bull case right now has been the abatement of headline risk which has been a drag on the stock price. When the company is not constantly battling a negative newsflow focused on its corporate leadership, how it handles data privacy, and (possibly) weak engagement trends, the narrative on the stock can shift to how well Instagram is performing and how inexpensive the stock looks relative to its expected growth rate.