Facebook Stock a Strong Buy Despite Oculus Concerns

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Welcome to the Stock of the Day.

Shares of Facebook (FB) dipped after the social media giant announced plans to buy a virtual reality platform developer, Oculus VR, for $2 billion. This deal has clearly divided Wall Street: Some are warning that this is a frivolous deal in a frothy M&A market while others consider this a bold move to catch the wave of the future. Is the dip a sign of bad times to come or a buying opportunity for FB?

Let’s find out.

Company Overview

We’ve all heard of facebook.com–the social networking website with 1.23 billion monthly active users around the world. Facebook was founded in 2004 by former Harvard University student Mark Zuckerberg.

After the site experienced a meteoric rise in popularity over the next eight years, the company went public in February 2012. While the stock has had its ups and downs since then, it appears that the stock has found its footing.

With $7.87 billion in sales brought in last year, the company employs 6,337 worldwide.

Deal Book

On Tuesday Facebook announced plans to buy Oculus VR for $400 million in cash and $1.6 billion in stock. Oculus VR is the developer of a next generation virtual reality headset, which Facebook CEO Mark Zuckerberg saw as one of the “platforms of tomorrow.”The deal turned heads in Silicon Valley and on Wall Street for several reasons.

First, Oculus is a relatively new company, having began as a Kickstarter-funded project just a few years ago. Second, the technology doesn’t have direct tie-in to social media. The Oculus Rift system has been popular among the video gaming community but it isn’t clear how Facebook could integrate this technology into its current business. Third, the company doesn’t have any revenues to speak of yet; the Oculus Rift is still in the development phase.

So there’s a lot of uncertainty about how this $2 billion investment will pay out in the long-term. Even so, I consider Facebook stock a buy right now, and here’s why:

Future Outlook

Facebook  is tentatively scheduled to report first-quarter results after the close on April 30. And I expect this to be a headline-making announcement: The analyst community is calling for 60.3% annual sales growth and 100% earnings growth. But Facebook’s bottom line could be even stronger: Over the past two months the consensus estimate has been hiked up 9% to 24 cents per share.

This suggests that analysts are struggling to pin down Facebook’s profit potential and that the social media company could post another double-digit earnings surprise (as it has for the past three quarters running).

Looking ahead to FY 2014, Facebook is expected to post 44.4% top-line and 43.2% bottom-line growth. That’s well above the average 33.2% earnings estimate for internet information providers.

Current Ratings

Before you buy any stock, you should always run it through my free Portfolio Grader ratings system. This Moderately Aggressive stock has made a complete turnaround since I added it to Portfolio Grader in May 2013–10 months ago this was a D-rated sell.

Since then the stock has improved in terms of both fundamental health and institutional buying pressure. Out of the eight financial metrics I graded FB on, it received As on four: Sales growth, operating margin growth, earnings growth and analyst earnings revisions.

FB also earned Bs on earnings surprises and return on equity. The only two fundamental areas Facebook needs to improve are earnings momentum (F) and cash flow (C).

Meanwhile, buying pressure is very strong, as shown by the stock’s A-rated Quantitative Grade.

Bottom Line: As of this posting I consider Facebook stock an A-rated Strong Buy.