The conference call that shook investor faith in Facebook
Concerns about revenue growth and the impact of new privacy laws hit shares
The earnings call that cast serious doubt about Facebook Inc.’s seemingly unstoppable growth started normally enough.
Even though Facebook’s stock price had fallen almost 10% in after-hours trading at one point due to a miss on revenue—albeit a narrow one—Chief Executive Mark Zuckerberg opened the call just after 5 p.m. Eastern time by saying the company had “a solid quarter.” He crowed about Instagram, calling it an “amazing success” and said he believed that the unit grew twice as quickly under Facebook than it would have solo.
About 12 minutes into the call, Chief Operating Officer Sheryl Sandberg chimed in, providing her usual litany of examples of how advertisers were adopting its various ad tools.
There were few signs that anything major was amiss.
And then around 5:20 p.m., Chief Financial Officer Dave Wehner addressed analysts and dropped one bombshell after another, rattling investors and raising red flags about whether Facebook’s powerful moneymaking machine is starting to sputter.
First he said the advertising revenue growth slowed down more in Europe than anywhere else in the world partly because of new privacy laws there. That was a bit jarring, as most investors had come to believe the new law that went into effect in May would have minimal, if any, impact.
Then, he noted that the overall revenue growth rate wasn’t just slowing in the second quarter, but would continue to do so in the third and fourth. He partly blamed “currency headwinds” and new privacy options for users but also revealed that new ad formats such as those within Instagram Stories weren’t pulling in the same amount of money as ads shown in the Facebook and Instagram feeds.
This revelation about Stories startled many analysts and investors. Facebook executives have said users were embracing the Stories feature, which allows users to post photo and video montages that disappear after 24 hours, and that activity would eclipse time spent just scrolling through feeds next year. Ads shown in feeds are where Facebook generates the bulk of its revenue. Now, Facebook executives were saying that people were spending more time using a less-lucrative product.
Operating margins, Mr. Wehner added, would fall to the “mid-30s” from about 44% currently over the next few years, stemming in part from investments in security and safety that Facebook has discussed since last fall.
By the time the question-andanswer session started at roughly 5:30 p.m., Facebook shares were down 16%.
Analysts struggled to unpack the meaning of Mr. Wehner’s comments on revenue and growth.
Mr. Wehner and Ms. Sandberg noted that Facebook had yet to feel the full effects of the new European privacy laws. Mr. Wehner pointed out that Facebook would see a hit to revenue growth owing to changes to its products that would boost privacy.
“The question is will this monetize at the same rate as News Feed?” Ms. Sandberg replied to one question about the moneymaking potential of Stories. “And we honestly don’t know, we’ll have to see what happens.”
She added that there were “good reasons to be very optimistic about the monetization,” including the fact that it takes time for companies to adopt new advertising tools.
Investors seemed skeptical. By 5:52 p.m., Facebook shares had plunged 24% to $164.99. Shares eventually recovered slightly late Wednesday evening.
“I think many investors are having a hard time reconciling that type of deceleration, considering how good the advertising-advertiser feedback is on your platform,” Jefferies analyst Brent Thill asked toward the end of the call. “It just seems like the magnitude is beyond anything we’ve seen, especially across the number of tech that we all cover.”
Ms. Sandberg replied: “I mean, even at decreasing growth rates, we are still growing and predicting growth at very healthy rates.”
Altogether, it was a remarkable turn of events, given that most analysts had expected the social-media giant to deliver yet another stellar earnings report. Instead, they must grapple with the question of whether Facebook, too, has limits.
“The advertising industry— and digital advertising no less—has limits to growth,” wrote Brian Wieser, an analyst with Pivotal Research who had rated Facebook shares a “sell” before the earnings report. “While the company is still growing at a fast clip, the days of 30%+ growth are numbered.”