Mirror, Mirror, on the Wall, Which Is the Cheapest FAANG Stock of Them All?

Regardless of how well or poorly the broad-market indexes have performed, new and tenured investors have gravitated to the FAANG stocks for more than a decade.

When I say “FAANG” stocks, I’m referring to:

• Facebook, which is now part of Meta Platforms (META -1.45%)
• Apple (AAPL 0.08%)
• Amazon (AMZN 0.28%)
• Netflix (NFLX -1.88%)
• Google, which is now part of Alphabet (GOOGL 0.71%) (GOOG 0.70%)

The reason these companies are so widely owned has to do with their long-term outperformance and industry-based competitive advantages.

With regard to the latter, all five of these companies have well-defined moats or edges that have, thus far, proved insurmountable.

They’re also crushing the major U.S. stock indexes in the return column. Over the trailing-10-year period, through July 13, Apple, Netflix, Meta, Amazon, and Alphabet (Class A shares, GOOGL), in that order, have produced returns of around 1,150%, 1,120%, 1,110%, 773%, and 440%. By comparison, the benchmark S&P 500 has gained 168% over the same timeline.

These are five highly trusted businesses — but they’re not identical on a valuation basis.

Based on forward P/E, there’s one FAANG that’s clearly cheaper than the others

Although there are a number of ways to evaluate stocks from a fundamental perspective, the forward price-to-earnings (P/E) ratio is one of the most common metrics used. The forward P/E is derived by dividing a company’s share price into Wall Street’s consensus earnings per share (EPS) for the upcoming year.

Based on Wall Street’s consensus EPS for these companies in 2024, here’s what the forward P/Es currently look like for the FAANG stocks:

• Alphabet (Class A shares, GOOGL): forward P/E of 19.9
• Meta Platforms: forward P/E of 21.3
• Apple: forward P/E of 29
• Netflix: forward P/E of 31.1
• Amazon: forward P/E of 52.1

This traditional fundamental metric suggests Alphabet, the parent of Google, streaming platform YouTube, and autonomous vehicle company Waymo, is the cheapest of the FAANG stocks at just shy of 20 times forward-year earnings.

What’s noteworthy about Alphabet is that it’ll continue to benefit from its foundational search engine, which is generating copious amount of cash flow, while enjoying potentially faster growth rates from its ancillary segments. This includes its cloud infrastructure service division, Google Cloud, as well as YouTube, the second most-visited social media platform behind Meta’s Facebook.

Google Cloud is a particularly interesting growth opportunity. The March-ended quarter marked the first time that Alphabet’s cloud infrastructure service segment recorded an operating profit ($191 million).  Enterprise cloud spending is still in its early stages, and the operating margin associated with cloud services tends to leave advertising margins in the dust.

Image source: Getty Images.

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Cash flow is a much better measure of value with the FAANG stocks

However, a traditional forward-year earnings metric may not be the best way to value the FAANG stocks. While it’s a metric that works nicely on mature companies, the willingness of the FAANGs to reinvest a sizable percentage of their operating cash flow back into their respective businesses makes cash flow a far better measure of value.

Using Wall Street’s forward-year cash-flow-per-share estimates, here’s how the FAANG stocks rank:

• Meta Platforms: 11.9 times forward-year cash flow
• Amazon: 13 times forward-year cash flow
• Alphabet: 13.5 times forward-year cash flow
• Apple: 23.9 times forward-year cash flow
• Netflix: 32.1 times forward-year cash flow

As you can see, focusing on cash-flow generation changes things quite a bit. Netflix and Apple, which are considerably cheaper than Amazon on the basis of forward earnings, are exceptionally pricey when you factor in their operating cash flow when compared to Amazon. In fact, based on its cash flow potential over the next couple of years, Amazon is cheaper than it’s ever been as a publicly traded company.

But when it comes to the best deal among the FAANGs, Meta Platforms stands head and shoulders above its peers. That might come as a surprise considering that Meta’s shares have more than tripled off their 2022 bear market low.

Meta’s foundation continues to be its top-tier social media real estate. Facebook, Instagram, WhatsApp, and Facebook Messenger are among the most-downloaded apps on the planet. Soon, we might be adding Threads to the list. Threads signed up more than 100 million members in only five days.  Even though Meta’s social media user growth has slowed considerably, it’s still the clear go-to for advertisers looking to reach a wide audience. Meta generated slightly more than 98% of its first-quarter revenue from advertising.

The company’s potential in virtual reality and the metaverse is exciting, too. Meta unveiled its mixed reality headset, the Quest 3, in early June, and its Reality Labs segment has been pouring billions of dollars into becoming an on-ramp for the 3D virtual environment known as the metaverse.  Thanks to its abundant cash flow and sizable net-cash balance, Meta has the luxury of making these investments for its future.

Lastly, don’t overlook that Meta has shareholder-friendly levers it can pull. With Reality Labs’ operating losses standing out like a sore thumb last year, Meta reduced its full-year expenditure guidance (for the entire company) by $5 billion at the midpoint.  Tightening its belt a bit, coupled with the company’s board approving an up to $40 billion share buyback, is another way Meta can potentially make itself more attractive to investors.