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FB > SEC Filings for FB > Form 10-Q on 2-May-2013All Recent SEC Filings

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Form 10-Q for FACEBOOK INC


2-May-2013

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

You should read the following discussion of our financial condition and results of operations in conjunction with the condensed consolidated financial statements and the notes thereto included elsewhere in this Quarterly Report on Form 10-Q and with our audited consolidated financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2012, as filed with the Securities and Exchange Commission. In addition to historical condensed consolidated financial information, the following discussion contains forward-looking statements that reflect our plans, estimates, and beliefs. Our actual results could differ materially from those discussed in the forward-looking statements. Factors that could cause or contribute to these differences include those discussed below and elsewhere in this Quarterly Report on Form 10-Q, particularly in Part II, Item 1A. "Risk Factors." For a discussion of limitations in the measurement of certain of our user metrics, see the section entitled "-Limitations of Key Metrics" in this Quarterly Report on Form 10-Q.
Overview
Our mission is to give people the power to share and make the world more open and connected.
We build products that support our mission by creating utility for users, developers, and advertisers:
Users. We enable people who use Facebook to stay connected with their friends and family, to discover what is going on in the world around them, and to share and express what matters to them to the people they care about. Developers. We enable developers to use the Facebook Platform to build applications (apps) and websites that integrate with Facebook to reach our global network of users and to build products that are more personalized, social, and engaging.
Advertisers. We enable advertisers to engage with more than one billion monthly active users on Facebook or subsets of our users based on information they have chosen to share with us such as their age, location, gender, or interests. We offer advertisers a unique combination of reach, relevance, social context, and engagement to enhance the value of their ads.
We generate substantially all of our revenue from advertising and from fees associated with our Payments infrastructure that enables users to purchase virtual and digital goods from our Platform developers. In the first quarter of 2013, we recorded revenue of $1,458 million, income from operations of $373 million and net income of $219 million. Relative to the first quarter of 2012, total costs and expenses grew more than revenue primarily due to increased headcount, expansion of our data center operations and to a lesser extent, increased share-based compensation and related payroll tax expenses for restricted stock units (RSUs) during the first quarter of 2013.


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Trends in Our User Metrics
The numbers of daily active users (DAUs), monthly active users (MAUs), and mobile MAUs discussed below, as well as average revenue per user (ARPU), do not include Instagram users unless such users would otherwise qualify as DAUs, MAUs and/or mobile MAUs based on activity that is shared back to Facebook.
Daily Active Users (DAUs). We define a daily active user as a registered Facebook user who logged in and visited Facebook through our website or a mobile device, or took an action to share content or activity with his or her Facebook friends or connections via a third-party website that is integrated with Facebook, on a given day. We view DAUs, and DAUs as a percentage of MAUs, as measures of user engagement.

[[Image Removed]] Worldwide DAUs increased 26% to 665 million on average during March 2013 from 526 million during March 2012. We experienced growth in DAUs across major markets including Brazil, India, and the United States. Overall growth in DAUs was driven largely by increased mobile usage of Facebook. During the first quarter of 2013, the number of DAUs using personal computers increased modestly compared to the same period in 2012, but in certain key markets such as the United States the number of DAUs using personal computers decreased, while mobile DAUs continued to increase.


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Monthly Active Users (MAUs). We define a monthly active user as a registered Facebook user who logged in and visited Facebook through our website or a mobile device, or took an action to share content or activity with his or her Facebook friends or connections via a third-party website that is integrated with Facebook, in the last 30 days as of the date of measurement. MAUs are a measure of the size of our global active user community, which has grown substantially in the past several years.

[[Image Removed]] Note: For purposes of reporting DAUs, MAUs, and ARPU by geographic region, Europe includes all users in Russia and Turkey, Asia includes all users in Australia and New Zealand, and Rest of World includes all users in Africa, Latin America, and the Middle East.
As of March 31, 2013, we had 1.11 billion MAUs, an increase of 23% from March 31, 2012. Users in Brazil and India represented key sources of growth in the first quarter of 2013 relative to the prior year. We had 73 million MAUs in Brazil as of March 31, 2013, an increase of 62% compared to the same period in 2012; and we had 78 million MAUs in India as of March 31, 2013, an increase of 50% compared to the same period in 2012.


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Mobile MAUs. We define a mobile MAU as a user who accessed Facebook via a mobile app or via mobile-optimized versions of our website such as
m.facebook.com, whether on a mobile phone or tablet such as the iPad, during the period of measurement.

Worldwide mobile MAUs increased 54% to 751 million as of March 31, 2013 from 488 million as of March 31, 2012. In all regions, an increasing number of our MAUs are accessing Facebook through mobile devices, with users in India, Brazil, and the United States representing key sources of mobile growth over the first quarter of 2013 as compared to the fourth quarter of 2012. Approximately 189 million mobile MAUs accessed Facebook solely through mobile apps or our mobile website during the month ended March 31, 2013, increasing 20% from 157 million during the month ended December 31, 2012. The remaining 562 million mobile MAUs accessed Facebook from both personal computers and mobile devices during that month. While most of our mobile users also access Facebook through personal computers, we anticipate that the rate of growth in mobile usage will exceed the growth in usage through personal computers for the foreseeable future and that the usage through personal computers may be flat or continue to decline in certain markets, including key developed markets such as the United States, in part due to our focus on developing mobile products to encourage mobile usage of Facebook.

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Trends in Our Monetization by User Geography We calculate our revenue by user geography based on our estimate of the geography in which ad impressions are delivered or virtual goods are purchased. We define ARPU as our total revenue in a given geography during a given quarter, divided by the average of the number of MAUs in the geography at the beginning and end of the quarter. Our revenue and ARPU in regions such as United States & Canada and Europe are relatively higher due to the size and maturity of those advertising markets as well as our greater sales presence and the number of payment methods that we make available to marketers and users.

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Note: Our revenue by user geography in the charts above is geographically apportioned based on our estimation of the geographic location of our users when they perform a revenue-generating activity. This allocation differs from our revenue by geography disclosure in our condensed consolidated financial statements where revenue is geographically apportioned based on the location of the advertiser or developer.
During the first quarter of 2013, worldwide ARPU was $1.35, an increase of 12% from the first quarter of 2012. Over this period, ARPU increased by approximately 35% in Rest of World, by over 20% in United States & Canada and Asia, and by approximately 14% in Europe. ARPU in the first quarter of 2013 declined 12% from the fourth quarter of 2012. We believe the sequential quarterly decline was driven by seasonal trends, which also affected ARPU trends from the fourth quarter of 2011 to the first quarter of 2012, during which period ARPU declined by 12%. In addition, the sequential decline in ARPU in the first


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quarter of 2013 was affected by the fact that our user growth was higher in geographies with relatively lower ARPU, such as Asia and Rest of World. We expect that user growth in the future will continue to be higher in those regions where ARPU is relatively lower, such as Asia and Rest of World, such that worldwide ARPU may continue to increase at a slower rate relative to ARPU in any geographic region, or potentially decrease even if ARPU increases in each geographic region.
Components of Results of Operations
Revenue
We generate substantially all of our revenue from advertising and from fees associated with our Payments infrastructure that enables users to purchase virtual and digital goods from our Platform developers.
Advertising. Our advertising revenue is generated by displaying ad products on the Facebook website or mobile app and third-party affiliated websites or mobile apps. Marketers pay for ad products either directly or through their relationships with advertising agencies, based on the number of impressions delivered or the number of clicks made by our users. We recognize revenue from the delivery of click-based ads in the period in which a user clicks on the content. We recognize revenue from the display of impression-based ads in the contracted period in which the impressions are delivered. Impressions are considered delivered when an ad is displayed to users. The number of ads we show is subject to methodological changes as we continue to evolve our ads business and the structure of our ads products. Whether we count the initial display only or every display of an ad as an impression is dependent on where the ad is displayed. For example, an individual ad in News Feed that is purchased on an impression basis may be displayed to users more than once during a day; however, only the initial display of the ad is considered an impression, regardless of how many times the ad is actually displayed within the News Feed. Payments and other fees. We enable Payments from our users to our Platform developers. Our users can transact and make payments on the Facebook Platform by using credit cards, PayPal or other payment methods available on our website. We receive a fee from our Platform developers when users make purchases from our Platform developers using our Payments infrastructure. We recognize revenue net of amounts remitted to our Platform developers. We have mandated the use of our Payments infrastructure for game apps on Facebook, and fees related to Payments are generated almost exclusively from games. Our other fees revenue consists primarily of user Promoted Posts and, to a lesser extent, Facebook Gifts revenue, and has been immaterial in recent periods. Cost of Revenue and Operating Expenses
Cost of revenue. Our cost of revenue consists primarily of expenses associated with the delivery and distribution of our products. These include expenses related to the operation of our data centers such as facility and server equipment depreciation, facility and server equipment rent expense, energy and bandwidth costs, support and maintenance costs, and salaries, benefits, and share-based compensation for employees on our operations teams. Cost of revenue also includes credit card and other transaction fees related to processing customer transactions.
Research and development. Research and development expenses consist primarily of salaries, benefits, and share-based compensation for employees on our engineering and technical teams who are responsible for building new products as well as improving existing products. We expense all of our research and development costs as they are incurred.
Marketing and sales. Our marketing and sales expenses consist primarily of salaries, benefits, and share-based compensation for our employees engaged in sales, sales support, marketing, business development, and customer service functions. Our marketing and sales expenses also include user-, developer-, and advertiser-facing marketing and promotional expenditures.
General and administrative. Our general and administrative expenses consist primarily of salaries, benefits, and share-based compensation for our executives as well as our legal, finance, human resources, corporate communications and policy, and other administrative employees. In addition, general and administrative expenses include outside consulting fees, legal and accounting services, and facilities and other supporting overhead costs. General and administrative expenses also include legal settlements and amortization of patents we acquired.


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Results of Operations
The following table set forth our condensed consolidated statements of income
data:
                                            Three Months Ended March 31,
                                               2013               2012
                                                   (in millions)
Revenue                                  $       1,458       $       1,058
Costs and expenses:
Cost of revenue                                    413                 277
Research and development                           293                 153
Marketing and sales                                203                 143
General and administrative                         176                 104
Total costs and expenses                         1,085                 677
Income from operations                             373                 381
Interest and other (expense) income, net           (20 )                 1
Income before provision for income taxes           353                 382
Provision for income taxes                         134                 177
Net income                               $         219       $         205

Share-based compensation expense included in costs and expenses:

                                                              Three Months Ended March 31,
                                                                  2013               2012
                                                                     (in millions)
Share-based compensation expense included in costs and
expenses:
Cost of revenue                                            $             8       $        5
Research and development                                               117               60
Marketing and sales                                                     24               19
General and administrative                                              21               19
Total share-based compensation expense                     $           170       $      103


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The following table set forth our condensed consolidated statements of income data (as a percentage of revenue):

                                           Three Months Ended March 31,
                                               2013              2012
Revenue                                        100  %               100 %
Costs and expenses:
Cost of revenue                                 28  %                26 %
Research and development                        20  %                14 %
Marketing and sales                             14  %                14 %
General and administrative                      12  %                10 %
Total costs and expenses                        74  %                64 %
Income from operations                          26  %                36 %
Interest and other (expense) income, net        (1 )%                 - %
Income before provision for income taxes        24  %                36 %
Provision for income taxes                       9  %                17 %
Net income                                      15  %                19 %

Share-based compensation expense included in costs and expenses (as a percentage of revenue):

                                         Three Months Ended March 31,
                                           2013               2012
Cost of revenue                               1 %                - %
Research and development                      8                  6
Marketing and sales                           2                  2
General and administrative                    1                  2
Total share-based compensation expense       12 %               10 %


Three Months Ended March 31, 2013 and 2012
Revenue
                               Three Months Ended March 31,
                                                                        %
                                     2013                   2012     change
                               (in millions, except for percentages)
Revenue:
Advertising             $         1,245                   $   872      43 %
Payments and other fees             213                       186      15 %
Total revenue           $         1,458                   $ 1,058      38 %

Revenue in the first quarter of 2013 increased $400 million, or 38%, as compared to the same period in 2012. The increase was due primarily to an increase in advertising revenue.
Advertising revenue increased $373 million, or 43%, as compared to the same period in 2012, due to a 39% increase in the number of ads delivered and a 3% increase in the average price per ad. Factors that affected advertising revenue growth and advertising price and volume trends included: i) the introduction and growth of ads in News Feed on personal computers and mobile devices, which was the largest driver of revenue growth and also significantly increased the average price per ad; ii) 26% growth in average DAUs and 23% growth in MAUs from March 31, 2012 to March 31, 2013, which increased the number of ads we delivered; and iii) other product changes, including our decision in the fourth quarter of 2012 to lower our market reserve price, i.e. the minimum price threshold accepted in our ads auction. We believe the reserve price change significantly increased the number of ads delivered and reduced the average price per ad, and overall had a modest positive effect on revenue. For the first quarter of 2013, we estimate that mobile advertising revenue represented approximately 30% of total advertising revenue.


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Payments and other fees revenue in the first quarter of 2013 increased $27 million, or 15%, as compared to the same period in 2012. The increase in Payments and other fees revenue is a result of increased Payments revenue from games played on Facebook on personal computers, and to a lesser extent, the inclusion of other fees revenue in the first quarter of 2013 from user Promoted Posts and Facebook Gifts.

Cost of revenue
                          Three Months Ended March 31,
                                                                %
                            2013                 2012        change
                          (in millions, except for percentages)
Cost of revenue       $         413         $        277       49 %
Percentage of revenue            28 %                 26 %

Cost of revenue in the first quarter of 2013 increased $136 million, or 49%, compared to the same period in 2012. The increase was primarily due to expenses related to expanding our data center operations, including an $87 million increase in depreciation in the first quarter of 2013 due to increased infrastructure purchases in the last year. Increases in payroll and benefits expenses resulting from a 52% increase in employee headcount also contributed to the increase in cost of revenue in the first quarter of 2013. These expenses supported our user growth, the increased usage of products by users, developers, and marketers, and the launch of new products.

Research and development
                            Three Months Ended March 31,
                                                                 %
                               2013                2012        change
                             (in millions, except for percentages)
Research and development $        293         $        153         92 %
Percentage of revenue              20 %                 14 %

Research and development expenses in the first quarter of 2013 increased $140 million, or 92%, compared to the same period in 2012. The increase was primarily due to an increase in payroll and benefits expense resulting from a 69% growth in employee headcount in engineering, product management and other technical functions. Additionally, share-based compensation expense increased $57 million in the first quarter of 2013. This investment supported our efforts to improve existing products and build new products for users, developers, and marketers.

Marketing and sales
                          Three Months Ended March 31,
                                                               %
                            2013                 2012        change
                          (in millions, except for percentages)
Marketing and sales   $         203         $        143      42%
Percentage of revenue            14 %                 14 %

Marketing and sales expenses in the first quarter of 2013 increased $60 million, or 42%, compared to the same period in 2012. The increase was primarily due to an increase in payroll and benefits expenses resulting from a 17% increase in employee headcount to support global sales, business development and customer service. Additionally, our user-, developer-, and advertiser-facing marketing and share-based compensation expenses increased $19 million and $5 million, respectively, in the first quarter of 2013.


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General and administrative
                               Three Months Ended March 31,
                                                                     %
                                 2013                 2012        change
                               (in millions, except for percentages)
General and administrative $         176         $        104       69 %
Percentage of revenue                 12 %                 10 %

General and administrative expenses in the first quarter of 2013 increased $72 million, or 69%, compared to the same period in 2012. The increase was primarily due to legal settlement costs in the first quarter of 2013 and amortization of acquired patents. Payroll and benefits expenses also increased in the first quarter of 2013 due to a 23% increase in employee headcount in human resources, information security, corporate communications and policy, and other functions.

Interest and other (expense) income, net
                                             Three Months Ended March 31,
                                                                                   %
                                               2013                 2012        change
                                             (in millions, except for percentages)
Interest expense                         $         (15 )       $        (13 )      15 %
Other (expense) income, net                         (5 )                 14       136 %
Interest and other (expense) income, net $         (20 )       $          1        NM

Interest and other (expense) income, net in the first quarter of 2013 decreased $21 million compared to the same period in 2012. Changes in other (expense) income, net were primarily due to foreign exchange losses in the first quarter of 2013 as compared to foreign exchange gains in the same period of 2012 resulting from the periodic re-measurement of our foreign currency balances, offset by an increase in interest income driven by higher invested cash balances. Interest expense increased by $2 million primarily due to interest on the $1.5 billion term loan that was drawn down in the fourth quarter of 2012.

Provision for income taxes
                               Three Months Ended March 31,
                                                                     %
                                 2013                 2012        change
                               (in millions, except for percentages)
Provision for income taxes $         134         $        177      (24 )%
Effective tax rate                    38 %                 46 %

Our provision for income taxes in the first quarter of 2013 decreased $43 million, or 24%, compared to the same period in 2012. Our effective tax rate in the first quarter of 2013 also decreased compared to the same period in 2012. These decreases were primarily due to the recognition of a non-recurring tax benefit in the first quarter of 2013 related to the reinstatement of the federal credit for research and development activities applicable to the year ended December 31, 2012. We expect our effective tax rate in the second quarter and full year of 2013 will be higher than the effective tax rate for the first quarter of 2013 because the benefit related to the reinstatement of the federal credit for 2012 research and development activities will not recur in future quarters.
Our effective tax rate has exceeded the U.S. statutory rate primarily because of the impact of non-deductible share-based compensation expense and losses arising outside the United States in jurisdictions where we do not receive a tax benefit. These losses were primarily due to the initial start-up costs incurred by our foreign subsidiaries to operate in certain foreign markets, including the costs incurred by those subsidiaries to license, develop, and use our intellectual property. Our effective tax rate in the future will depend on the portion of our profits earned within and outside the United States, which will also be affected by our methodologies for valuing our intellectual property and intercompany transactions.


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