Target: Downsizing could add $30 billion to market cap (NASDAQ: META)

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justin sullivan

Thesis

Meta Platforms, Inc. (NASDAQ: META) shares rose more than 4% premarket after news broke that the social media giant is planning mass layoffs that could affect more than 11,000 workers. I feel sorry for the people though affected, as an investor I am happy with the news.

With Meta’s revenue growth slowing sharply in 2022, analysts have frequently noted that the company needs to show more financial discipline. And CEO Mark Zuckerberg’s commitment to aggressively downsizing should certainly send a strong signal that profitability remains a top priority for the company.

Personally, I estimate that various cost savings could add up to approximately $1.5 – $2 billion annually. Assuming a P/E of x15, this could strengthen Meta’s market cap by $22.5-$30 billion.

For reference, Meta shares are down 71.5% YTD, versus a loss of roughly 20% for the S&P 500 (SPY).

META vs SPY to date

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Meta cuts the number of employees by 13%

According to multiple reports in the major financial media, Zuckerberg sent an email to employees announcing by far the largest headcount reduction in company history. Bloomberg reported that the number of affected employees could reach 13% of the current Meta workforce, which translates into up to 11,000 people.

Although more information on the layoff structure is pending, employees across all divisions are likely to be affected, with a likely focus on the human resources department and content moderation.

Reportedly, all US employees (and likely all non-US employees as well) will receive a severance package equal to 16 weeks of base pay. In addition, employees will receive an additional two weeks of pay for each year they work with Meta.

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Cost savings could add $30 billion of market value

It is difficult to estimate precisely how Meta’s cost-saving programs will translate into expanded profitability. But assuming the average annual cost per employee for Meta is between $115,000 and $135,000, including benefits and overheating expenses, then the cost savings would likely amount to $1.25 billion – $1.37 billion annually.

Investors should consider that headcount reductions are not the only savings programs considered by Meta Platforms. The company has also expressed efforts to reduce its real estate footprint and other operating costs. Personally, I estimate that such cost-saving programs could reduce operating expenses by an increment of 75 to 125 basis points, or, in financial terms, between $625 million and $1.05 billion.

In summary, I think it is reasonable to assume that Meta’s savings ambitions will likely reduce operating expenses by approximately $1.5 – $2 billion annually. Assuming a P/E of x15, this could strengthen Meta’s market cap by $22.5-$30 billion.

Investor involvement

As an investor, I applaud Zuckerberg’s unprecedented downsizing: it highlights the company’s commitment to profitability. And investors are right to drive stocks higher after the announcement.

Investors should note that “operating discipline” has become a major concern for investors as Meta’s expenses as a percentage of revenues have risen steadily…

Target expenses as a percentage of income

Presentation of the third quarter of 2022 of Meta

…causing a sharp drop in net income…

Net Income Goal

Presentation of the third quarter of 2022 of Meta

…and free cash flow will drop to as low as $173 at Q3 2022versus $9.5 billion for the same period a year earlier.

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Free cash flow goal

Presentation of the third quarter of 2022 of Meta

Still more to come?

Personally, I think there are still more “savings” to come. Investors should consider that following the Twitter acquisition, Elon Musk pushed for a 50% reduction in the 7,500-person workforce, with initial estimates pointing to a 75% reduction.

Why shouldn’t Meta push a similarly high headcount reduction? Assuming Meta’s size favors economies of scale, and assuming AI investments pay off to enable further automation of content moderation and other tasks, I think Zuckerberg could push through an additional round of layoffs that could rival the former/current – with its respective implications for performance and implied market capitalisation.

The valuation is still ridiculous

Meta shares are ridiculously attractive value. Based on consensus data compiled by Seeking Alpha, Meta shares are trading at 8x one-year EV/EBIT, which would imply a discount to the industry median of up to 44%.

Meta valuation

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Mainly based on valuation, but also because I like Zuckerberg’s metaverse ambitions, I’m still super bullish on Meta stock. And I still think the implied fair value of the business should be around $257.93.

Following an increased focus on operating profitability, I reiterate a “Strong Buy” rating on Meta stock.

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