Summary:
- Facebook has put the Metaverse behind it and cut costs effectively.
- Valuation multiples for the company are trading near ten-year lows.
- Reels and Click-To-Message features are showing continued promise for the company as well.
Justin Sullivan
A Brief Timeline
Meta Platforms (NASDAQ:META), heretofore referred to as Facebook, has had a wild two years or so. To start, long-time executive and Wall Street-ordained “adult in the room” Sheryl Sandberg left the company after more than a decade of service. The company changed its name to Meta officially. Hand-wringing journalists and investors worried that TikTok would kill off Facebook’s business. CEO Mark Zuckerberg traced a brave new path for the company that revolved around a virtual world dubbed the Metaverse. Almost nobody liked or used the Metaverse and key investors believed the company’s spending on it was reckless, so it was subsequently killed off. The company then engaged in several rounds of layoffs and Zuckerberg got tough on employees’ perceived slacking.
Whew.
The market, digesting all of the above, made the last year and a half quite a volatile period for Facebook stock.
Koyfin
As the events described above unfolded, Facebook stock entered into a free fall, declining more than 70% at its low. It was then, in these doldrums, that we speculated about whether 2023 would be a breakout year for Facebook (you can read that article here).
So far, it has. Facebook has rallied a shocking 100% year to date, even as other members of the FAAMG have languished in today’s high inflation, non-zero interest rate environment.
Today we lay out our thesis why we believe the stock could still have room to run. Let’s dive in.
Getting Serious
Silicon Valley has long been known as a place of excess – where workers sip complimentary lattes from the company-sponsored coffee bar, grab a massage midday, and maybe get some work done at some point. Zuckerberg, to his credit, appears to have recognized faster than some of his peers that this trend was likely to end badly unless changes were made.
To this end, Facebook’s Q1 2023 earnings showcased how the company is buckling down and introducing a level of cost discipline not even seen during Sandberg’s tenure at the company. On the earnings call, CFO Susan Li noted that the company’s headcount had reduced by 11% – a figure that shocks the mind when you consider that this isn’t a year-over-year statistic, but sequential.
Earnings, which were down year over year (revenue, however, beat analyst estimates by $980 million) also bore signs of belt-tightening.
Company Filings
Research and Development costs jumped 22% year over year, but this increase was largely related to severance and headcount reductions at Reality Labs (the Metaverse) and the Family of Apps segment. Marketing spend fell year over year, and G&A expenses rose by 22% for the same reasons as R&D.
While a renewed sense of cost discipline is important and – if continued – will bear fruit in the future, it’s only one half of the story of Facebook.
Accelerating Business Lines
As mentioned earlier, there was a time when overly-worried investors fretted that TikTok, the social media short-form video company owned by ByteDance, would effectively do to Facebook what Facebook did to MySpace. These concerns, of course, were not unfounded given TikTok’s massive popularity. Those concerns today, however seem like a distant memory.
To combat the TikTok threat, Facebook rolled out Reels, a TikTok-lookalike feature that presents short form videos to users based on algorithmically determined preferences (Facebook also utilizes AI to drive engagement in Reels).
Facebook has made a strategic decision to lower the monetization rate of Reels in the near term (i.e., showing fewer ads to users) in order to drive engagement on the platform and keep eyeballs on Facebook’s apps, which we think is an astute decision. It appears to be working, as well: Zuckerberg stated on the conference call that users are “resharing Reels more than 2 billion times every day, doubling over the last 6 months.”
The feature which we are most excited about, however, is the growth of Facebook’s Business Messaging, or Click-To-Message. (We previously wrote about this feature, and you can read our article by clicking here.)
In short, Business Messaging monetizes the way that many consumers find businesses – through social media reviews, groups, and business pages. Businesses can pay to have their business promoted, and consumers can connect directly with them through the app to learn more or transact with the business.
In Q4 2022, management said that the Business Messaging platform had grown significantly to a $10 billion annual run rate. In Q1, Zuckerberg informed listeners that the participation in this Click-To-Message seemed to spur additional spending by businesses in that participation in Facebook’s other paid business messaging services had grown by 40%.
Valuation & The Future
Once upon a time tech companies commanded sky-high valuations that made investor’s eyes water. Those days, it seems are over. Facebook today – with its core business properties stronger than ever – trades at valuation multiples close to historical lows.
Koyfin
On a forward basis, Facebook trades today at 9.2x EV/EBITDA. For reference, the 10-year average forward EV/EBITDA for the stock is 15.3x. The stock trades hands at 19x on a P/E basis today against the 10-year historical average of 29.7x. We also remind readers that these valuations reflect the fact that the stock has had a 100% run-up in 2023 so far.
The main concern surrounding the valuation, of course, as well as any future stock movement is the readiness of advertisers to spend on the platform. Virtually all of Facebook’s revenues come in the form of advertising, and digital ad budgets have shrank year over year as purchasers grow wary of declining ROIs in the face of a possible recession.
On this front, results have been mixed. Facebook delivered a 6% top line increase year over year, but had this to say about Q1 advertisements:
Ad impressions delivered across our Family of Apps increased 26% year-over-year in the first quarter of 2023, partially offset by a 17% year-over-year decrease in our average price per ad. We believe that advertising demand during the first quarter of 2023 continued to be impacted by a more challenging macroeconomic environment, as well as limitations on our ad targeting and measurement tools arising from changes to iOS and the regulatory environment. While overall pricing remains under pressure from these factors, we believe our ongoing improvements to ad targeting and measurement are continuing to drive improved results for advertisers.
We read this to mean that while Facebook is collecting less revenues from ads right now, people are utilizing Facebook’s apps more than ever. As macroeconomic conditions eventually improve in the, we believe that the historical average of price will be restored.
The Bottom Line
With valuation multiples near 10-year lows, core business firing on all cylinders, and the cash-incinerating Metaverse now essentially a thing of the past, we have strong reason to think that the future for Facebook remains bright. Risks to our thesis include a longer or more harsh recession than is currently expected, which could further constrict ad budgets and negatively impact the company. However, given the cost-cutting initiatives that management has so far been more than willing to execute, we believe that the company is well positioned for the future.
Analyst’s Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
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