Meta’s AI push needs to efficiently deliver a lot more ad growth
Summary
The Facebook parent’s valuation has surged, creating new pressure to keep growth up and costs down.
Investors are happy to let Mark Zuckerberg have his metaverse—so long as he keeps the advertising dollars rolling in. Hopefully the chief executive of the world’s largest social network knows where to find them.
Meta Platforms, the parent company of Facebook and Instagram, reports first-quarter earnings Wednesday afternoon, making it the first of the megacap tech giants to post results for the period. To say expectations are high would be an understatement. Even with a sharp, tech-sector-wide selloff on Friday, Meta’s share price is up 36% for the year to date. That is well ahead of its big tech peers save for Nvidia, and the fifth-best performance on the S&P 500 in that time.
Meta’s market cap of a little over $1.2 trillion is now 13% above the peak it saw in late 2021—and more than five times the level that it sank to the following year. The stock is also now trading around 24 times forward earnings—a 5% premium to Google-parent Alphabet, according to FactSet data. Meta’s shares had averaged a 13% discount to its arch-rival over the three-year period ahead of its last earnings report in February, which kicked off the stock’s latest upswing.
Several factors have driven the recent gains. Meta’s advertising business rebounded from a slump in 2022, while a sharp reduction in costs dubbed by Zuckerberg as the “year of efficiency" improved full-year operating margins by 10 percentage points. The company also used its last report to boost share buybacks and initiate its first-ever dividend.
Meta has been enjoying the same artificial intelligence halo lifting most of its major tech peers. The company released the latest version of its large-language model called Llama 3 on Thursday. But while Google has been a bit hamstrung by investors worried that genAI chatbots will displace its core business of internet search, the Facebook parent has the advantage of being able to integrate AI into its ad business without worries that its base of nearly 3.2 billion people checking in daily will somehow disappear. “The Meta moat is likely to continue growing with new Gen AI ad tools," Brent Thill of Jefferies wrote earlier this month.
Investors are betting on that. Analysts expect Meta’s first-quarter revenue to jump 26% year over year to nearly $36.2 billion, which is also the high end of the company’s own projected range. Full-year advertising revenue is expected to rise 17%—a point better than the 16% growth the company delivered last year. Operating margins are also expected to keep moving upward, hitting 39% this year compared with 35% in 2023, according to FactSet data.
All are doable. Meta hasn’t missed the midpoint of its own revenue guidance for the last six quarters, and its annual total costs and expenses have come in below its initial guided range for three of the past four years. Reels in particular is showing strength; the short-form video service that Meta uses to compete with TikTok averaged an ad load of 20% during the first quarter, compared with 16.2% in the same period last year, according to an analysis by Citigroup. Reels also stands to benefit longer term if TikTok ends up being banned in the U.S.; the House version of that bill passed over the weekend.
But the online ad business can swing unpredictably, due to global events like war, natural disasters and even tweaks by Apple to its iOS platform—the latter of which crimped ad growth for Meta and its social-network rivals in 2022 by making it harder for advertisers to track mobile users.
Geopolitical tensions and market shifts could also affect spending from China-based advertisers, which accounted for 10% of Meta’s revenue last year. In a report Thursday, Bernstein analyst Mark Shmulik noted that U.S. digital ad spending from e-commerce upstart Temu dropped “meaningfully" during February and March as the company “started to focus efforts elsewhere in face of regulatory uncertainty."
Meta also has to strike the right balance between its heavy investments in AI and maintaining its recently restored margins. The company already projected capital expenditures in the range of $30 billion to $37 billion for the year which, as a percentage of projected revenue, is the highest such spend of any of the major tech companies. And AI requires more than servers and Nvidia’s expensive chips; Meta told analysts in its last earnings report that it is planning to resume hiring in key areas, which “will further shift our workforce composition toward higher-cost technical roles." The year of efficiency may have an expiration date.
Write to Dan Gallagher at dan.gallagher@wsj.com
