Meta: Underestimated or value trap?

Laurens Tabak
Wednesday, 15 June 2022 07:51

Meta (formerly FaceBook) has experienced a lot of headwinds in the past year. The price has more than halved since September 2021, from $ 350 to $ 165. After publishing its figures for the fourth quarter of 2021, Meta lost more than $ 200 billion in market value, the largest loss for a U.S. company on the stock exchange.

How different was the price reaction after the publication of previous company results: Despite the fact that Meta registered its slowest sales growth since the listing in 2012, the share was listed 18 percent higher the next day. The price increase was caused by an unexpectedly higher increase in the number of daily users.

Increased competition from primarily TikTok and declining advertising revenues are putting pressure on Meta’s revenue model. Nevertheless, the fear that users will switch to TikTok en masse seems to have been alleviated for the time being because the number of users increased faster than expected. Is the price drop justified? Or is the fall excessive and does it provide opportunities?

Ad Revenue Dependence on the “App Family”

By far the largest part of Meta’s revenue comes from advertising revenue. The advertising industry has been under pressure for some time. This has two reasons:

  1. Changes to privacy in Apple’s mobile operating system (IOS) have a negative impact on Meta. This change in privacy makes it harder for advertisers to target consumers effectively. Users are asked if they want apps to track their online activity. Meta has indicated that it may lose $ 10 billion (about 8 percent) in annual sales due to Apple’s changed privacy policy
  2. Advertisers spend less on advertising due to high inflation, supply problems and the war in Ukraine. This trend is expected to continue in the coming period

Competitive Match: TikTok VS Instagram Wheel

Since its inception, what was then Facebook has undergone several developments. For example, founder and CEO Mark Zuckerberg stated: ‘We started as a website based mainly on text. It became a mobile platform that primarily ran on images. Video is now the main medium, and the short videos (Instagram wheel) is the next development.

Instagram Reels is the counterpart to TikTok. Wheels now account for 20 percent of the time users spend on Instagram. Therefore, it is important that Meta stays at the forefront of the latest developments in the media field. Many wonder if CEO Mark Zuckerberg is capable of this.

Mark Zuckerberg has previously proven to be a strategic genius, where new competition is immediately put to use or copied at an early stage. Examples include Instagram Reels as a counterpart to TikTok, Instagram Stories to Snapchat and InstaGramTV (IGTV) as a counterpart to YouTube. The past has shown that Zuckerberg is capable of being ahead of the competition.

Rise Metaverse

Are we already on the threshold of a new media evolution in 2022? Last year, Facebook changed its name to ‘meta ‘which is an abbreviation of ‘Metaverse’: a virtual world where you can virtually meet people and do all sorts of activities with a personal avatar.

Metaverse combines several technologies, including Augmented Reality (mixing the environment with holograms) and Virtual Reality (an artificial, 3-dimensional reality created by the computer). This virtual reality responds interactively to the user and aims to make the user experience the virtual environment as reality and participate in it.

Meta is investing heavily in the emergence of this virtual world – the company is investing billions in it every year. Meta has even created a separate section for this: reality laboratories† 10,000 people are employed within this division, representing over 20 percent of the total workforce!

Investors have so far questioned Zuckersberg’s push against Metaverse: to date, the company has made no “significant” progress. But were we not before skeptical about the future of Facebook?

Transition from the physical world to the virtual world

In the short term, Meta is experiencing economic headwinds from the emergence of Metaverse. Significant investments are now being made without direct returns. In the long run, this offers opportunities: a development takes time.

Meta has previously proven that it can successfully withstand transitions. In 2012, FaceBook survived the transition from computer site to mobile platform. Even then, as now, Facebook had a number of difficult neighborhoods. In 2018, another such transition took place: News feed made room for stories.

While it is still unclear what the potential of Metaverse is, one thing is for sure: Meta has proven its ability to implement media transitions successfully, resulting in tremendous growth in profits.

Financing and valuation

From an economic point of view, Meta is a very healthy company with a lot of money in hand. Analysts expect revenue and profit growth in the coming years despite all investments in Metaverse.

Historically, Meta trades at an average of 35 times its profits. This means that it takes 35 years for a start-up investment to pay off through the company’s current profits.

Basically, the lower the outcome of an ‘x number of times the profit’, the cheaper a company is rated.

Currently, Meta trades at around 13 times profit. These are valuations that are more appropriate for companies that show little or no growth in profits. However, this does not apply to Meta. Sales and profits continue to grow, according to average analysts’ expectations, by 10-15 percent per year. Based on this data, there appears to be ample upside potential in the stock.

summarizing

There are many uncertainties surrounding Meta. Despite the fact that the company has had a lot of headwinds lately, which partly justifies the price drop, there are lots of positive leads:

  1. Competition is taken over or copied directly
  2. Meta’s huge network ensures that we as users stick to the ‘App family’. As a result, advertisers will be happy to continue advertising. For this reason, Meta has a strong network effect and market position
  3. The metaverse is still in its infancy and the potential is infinite
  4. Meta generates huge cash flows and has a solid balance. Despite the fact that the company’s dominance is currently under pressure and the growth prospects are smaller (but still growing), Meta remains an attractive stock, especially at this valuation

The above points lead to the downward risk for the Meta share seeming limited, but it has ample upward potential. Meta seems like this’underrated ‘ and an excellent opportunity for the long-term value investor.

Disclaimer

Laurens Tabak is an investment specialist at 1Asset Management.nl The information in this column is not intended as individual investment advice or as an investment recommendation. Every investment you consider should be controlled in relation to your personal profile.

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