Why Warren Buffett Should Buy Facebook Stock

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For the vast majority of his career, Berkshire Hathaway (NYSE: BRK-A) (NYSE: BRK-B) CEO Warren Buffett has avoided tech stocks. Buffett has said he doesn't like to invest in tech companies as he finds them difficult to value and their futures difficult to predict. Historically, he has preferred stocks with consistent recurring business models like Coca-Cola or Wells Fargo .

However, in recent years Buffett has broken his rule against tech stocks twice. First he took a big swing and a miss on IBM (NYSE: IBM) . He bet billions on the software company because of its track record of hitting its growth goals, but he eventually sold his position for a loss as the company's transition to growth areas like cloud took too long to materialize.

More recently he's made Apple (NASDAQ: AAPL) his biggest holding, citing the iPhone-maker's wide margins and strong consumer brand ecosystem. The latter has enabled the growth of the company's services segment , including things like the App Store and Apple Music.

Now there's another tech giant that looks right for Buffett's bucks: Facebook (NASDAQ: FB) .

After its recent sell-off, Facebook arguably looks like a value stock, and it's got a couple of other things Buffett loves: A huge moat and a media monopoly. Let's take a closer look at each of these factors and why they might appeal to the Oracle of Omaha.

1. The value angle

In the stock market, value is like beauty: It's in the eye of the beholder. While Facebook is still clearly a growth stock with revenue and earnings per share set to grow close to 40% this year, the stock is now affordably priced according to conventional metrics. Today, the stock trades at a P/E of 26.8, barely higher than the S&P 500's ratio of 24.4 -- and while the broad market has historically grown earnings per share by a median of 12%, Facebook's annual growth rate is expected to be 23% over the next three years.

Facebook stock is not only as cheap as it's ever been, but is also more affordable than rival Alphabet (NASDAQ: GOOG) (NASDAQ: GOOGL) , which trades at a P/E of 33.6, and much cheaper than market darlings like Amazon and Netflix , which trade at triple-digit P/E ratios.

Considering its growth opportunities in the developing world and in properties like Instagram, WhatsApp, and Messenger, Facebook stock appears to offer significant value. Buffett, an icon of value investing , has said in the past, "Be greedy when others are fearful and fearful when others are greedy." After the recent sell-off, it seems that investors are fearful.

The company's current position also calls to mind another favorite Buffett aphorism, "It's far better to buy a wonderful company at a fair price than a fair company at a wonderful price." Taking into account Facebook's dominance of social media and the current valuation, it looks like just the kind of company that Buffett is talking about.

2. About that moat

Warren Buffett popularized the term "economic moat," which is a colorful way of portraying a set of sustainable competitive advantages that block out rivals and allow for high profit margins. Buffett almost always looks for a moat in the stocks he buys, and luckily Facebook has one in spades. Not only does the social network have a set of brand names recognized around the world, including its namesake, Instagram, and WhatsApp, but more importantly those products all create economic moats through their own network effects and switching costs.

In Facebook's case, network effects appear to be the most powerful. After all, social networks only function to the extent that there are other people on the network, which makes it difficult to establish a competing one once an incumbent is already entrenched. Since Facebook now has more than 2 billion monthly active users, it seems almost impossible to displace its leadership in social media the way it did to MySpace in the early days of the industry.

Exemplifying his belief in economic moats, Buffett has said about Coca-Cola that if you gave him $100 billion and told him to take away Coke's leadership in soft drinks, he would give it back and say it couldn't be done. Well, the same could be said of Facebook and social media, and that huge competitive advantage has given the company eye-popping profit margins around 40% in recent quarters, better than virtually any other stock on the market. For comparison, the average S&P 500 company has a profit margin of about 10%. That's the power of a wide moat.

3. Buffett loves media companies

Over his investing career, Buffett has chosen a few pet industries that he prefers. He loves banking and insurance, and also targets healthcare, energy, industrials, and brand-name consumer companies -- but media stocks are high up on the list of his favorites. Buffett was a big investor in the former Washington Post Company, now known as Graham Holdings , which turned into a 100-bagger stock for him. He's also said many times that local newspapers and TV stations can offer near-monopolies because they tend to have little competition, and in the pre-internet days they were necessary both to stay informed and as an advertising outlet for local businesses.

As for Facebook, there's been a long debate over whether or not it's a media or tech stock, but the reality is that it's a hybrid of the two. The company essentially harnesses the power of the internet to be the front page of the digital era, the 21st century newspaper. Facebook has in many ways displaced the need for local media, and it's become so successful in part by borrowing from that model. Local businesses, for example, now look to Facebook to drum up demand for their services or get new customers. Just like local newspapers in Buffett's day, Facebook has essentially used its content to achieve a monopoly.

Beyond those reasons, there's another big one why Buffett should take a look at Facebook. The Oracle of Omaha is basically limited to megacap stocks if he wants to make investments that will move the needle for Berkshire since his company is so big already, and he generally avoids owning more than 10% of a company since that requires its own set of disclosures and restrictions. In the small world of stocks that he can buy, he doesn't have that many options, but Facebook seems like it has everything Buffett looks for. He could buy more than $50 billion worth today without having to worry about SEC rules.

It could be time for the investing legend to hit the "Like" button on Facebook stock.

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John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool's board of directors. Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool's board of directors. Jeremy Bowman owns shares of Facebook and Netflix. The Motley Fool owns shares of and recommends Alphabet (A shares), Alphabet (C shares), Amazon, Apple, Facebook, and Netflix. The Motley Fool has the following options: long January 2020 $150 calls on Apple and short January 2020 $155 calls on Apple. The Motley Fool recommends Berkshire Hathaway (B shares). The Motley Fool has a disclosure policy .

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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