This Spotlight Is Plaguing Facebook -- and It Won't Seem to Go Away

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Shares of Facebook (NASDAQ: FB) were slammed this week, falling about 13% by the end of the week. This extends the stock's recent tumultuous decline, bringing its total pullback since the social network's second-quarter earnings release in July to more than 40%.

The stock has seen pressure from a number of factors, including management's guidance for slower growth and higher costs and the seemingly inescapable spotlight in the media regarding the company's user privacy and security practices. The latter issue, in particular, has plagued the social network -- and there's no sign the concern will let up anytime soon.

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The latest episode

The most recent high-profile scrutiny of Facebook's privacy practices came from a story by The New York Times in which the newspaper accused the social network of giving some large technology companies "more intrusive access to users' personal data than it has disclosed."

Some more specific allegations in the story include Facebook giving Microsoft's Bing search engine access to the names of all Facebook users' friends and providing several companies "the ability to read Facebook users' private messages."

Notably, Facebook was quick to respond with a good defense to The New York Times' allegations, pointing out that these partnership agreements were part of integrations to give users access to Facebook features and to have more social experiences on other apps and websites. Further, Facebook said these features were only accessed when users used their Facebook credentials to access these other platforms.

In addition, Facebook debunked allegations that it was letting partners read private messages in a blog post on Wednesday.

Of course, Facebook has also made the news recently for more legitimate security concerns, including the Cambridge Analytica scandal in March and a security breach that allowed hackers to steal access tokens from about 30 million users in September.

It's costing Facebook billions

Facebook's operating expenses have jumped recently -- and management only expects this to continue. Unsurprisingly, one of the key drivers of this expense growth is increased investment in user security and privacy.

"Looking ahead, we will continue to invest heavily in security and privacy because we have a responsibility to keep people safe," said Facebook CEO Mark Zuckerberg in the company's second-quarter earnings call. "But as I've said on past calls, we're investing so much in security that it will significantly impact our profitability."

To this end, management has said it expects its total expense growth to exceed revenue growth in 2019. In addition, management forecasts its operating margin to trend from a current level of 42% toward 35% over the next several years. The days of Facebook's 50% operating margins seem long gone at this point.

Valuation matters

With media coverage of the health, privacy, and security of social network platforms only seeming to increase, Facebook is unlikely to escape this spotlight anytime soon. Does this mean investors should stay away from the social network entirely? Not necessarily.

Since Facebook has taken such a significant beating, a heightened risk profile for the company may be fully priced into the stock's prospects. For instance, amid this pullback in Facebook's stock price, the stock's price-to-earnings ratio has fallen from about 33 in July to 19 as of this writing. This means the company won't need nearly as robust earnings-per-share growth to live up to investor expectations as it would have earlier this year.

But in light of the unprecedented negative attention Facebook is receiving, investors may want to keep an eye on this spotlight's impact on the social network's business. If advertisers pare back their spending more than expected, investors may need to revisit their forecasts for Facebook's business.

Further, even if risks are fully priced in, investors should be prepared for a bumpy ride. This could get worse before it gets better.

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Teresa Kersten, an employee of LinkedIn, a Microsoft subsidiary, is a member of The Motley Fool’s board of directors. Daniel Sparks has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Facebook. The Motley Fool owns shares of Microsoft. The Motley Fool recommends The New York Times. The Motley Fool has a disclosure policy.