Target investors are concerned about capital allocation (META)

Eric Sprague profile picture

tatiana antonenko

Introduction

Investors are concerned that Meta (NASDAQ: META) is putting too much capital into metaverse investments, so little is being returned to shareholders. Management says they are returning capital to shareholders with buybacks, but the timing has been bad. looking at the trailing twelve month (“TTM”) buybacks of $41.2 billion, the average price was higher than what we see today. Additionally, many argue that buybacks simply offset share-based compensation (“SBC”) rather than reduce the number of shares. My thesis is that Meta should appease investors who are worried about capital allocation by committing to a small annual dividend, perhaps $4bn or about 10% of TTM buybacks.

buyback concerns

The cash flow statement shows trailing twelve months (“TTM”) repurchases of $41.2 billion or $21.093 million + $44.537 million – $24.476 million, but this does not return much to investors as the price of the stock has since dropped. Additionally, many say these buybacks have more to do with offsetting SBC dilution than reducing the share count. A buyback from November 9 Article by Ben Hunt [@EpsilonTheory] says Google and Meta transferred more than $300 billion from shareholders to employees in their share-based compensation monetization over the last ten years.

Mr. Hunt breaks down the Target portion of this to $95.8 billion in buybacks to offset SBC dilution along with $23.1 billion in related taxes for a total consideration of nearly $119 billion over 10 years.

Metaverse Concerns

Reality Labs operating losses are $9,438 million for 9M22. Adding the 2021 losses of $10,193 million and the 2020 losses of $6,623 million, the accumulated operating losses in this area from January 2020 to date is a prodigious sum of $26,254 million. Once again, investors would feel better about these huge metaverse bets if they were paid back a small dividend of about $4 billion a year.

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Concerns with reels

Currently, the Reels segment is less profitable than Feed or Stories, so investors are concerned that less capital will be generated from advertising, while investments in the metaverse remain high. Combining Facebook Blue and Instagram, Reels revenue run rate is now $3bn per call from 3Q22. Also, it is currently less efficient than other advertising options, so the opportunity cost is $500 million per quarter, while management works to turn this from a headwind to a tailwind. A WSJ from September 12 Article caused concern among investors as he said there is a lot of work to be done with IG Reels. The news in the article is not all bad; IG Reels and TikTok can be complementary, as visually appealing content can perform better on IG. The article says that IG’s audience is larger and has more disposable income, so they are more attractive to direct response advertisers, while TikTok is more like YouTube, where brand advertising is effective. The statistics the internal metadoc article cites are concerning:

Instagram users amass 17.6 million hours a day watching Reels, less than a tenth of the 197.8 million hours TikTok users spend each day on that platform, according to a document reviewed by The Wall Street Journal. which summarizes Meta’s internal investigation. The document, titled “Creators x Reels State of the Union 2022,” was released internally in August. He said Reels’ share had fallen 13.6% over the previous four weeks, and that “the majority of Reels users have no share at all.”

Sure enough, CEO Zuckerberg caught wind of the previous WSJ article, and he said a few things on the 3Q22 call that may appease investors regarding Reels:

There are now over 140 billion views of Reels on Facebook and Instagram each day. That’s a 50% increase from 6 months ago. Reels is incremental to the time spent on our apps. Trends look good here, and we think we’re gaining time spent sharing with competitors like TikTok. Over time, I hope a few things will set our products apart here. First, our discovery engine allows us to recommend all types of content beyond Reels, including photos, text, links, communities, long and short-form videos, and more. Second, we can mix this content with posts, along with posts from your family and friends, which cannot be generated by AI alone. And third, more social interactions are moving to messaging. We are developing a bridge between discovery and messaging that will strengthen these applications. On Instagram alone, people already share Reels a billion times a day through direct messages.

Valuation

a November 9 message CEO Zuckerberg revealed that Meta is downsizing its team by more than 13,000 employees. The layoffs will come from both the cash-generating app family of teams and the cash-consuming Reality Labs teams:

While we are making reductions across all organizations in both Family of Apps and Reality Labs, some teams will be affected more than others.

It is disturbing not to see the breakdown of these layoffs as they can have a huge impact on the valuation.

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There was a question about Apple charging for social media pushes in the 3Q22 follow-up to callbut CFO David Wehner didn’t seem to think it’s material for the upcoming finances:

And then Mark, specifically on momentum, we’re assessing that impact, but we don’t expect it to materially affect our guidance in both Q4 and 2023. We’re obviously disappointed to see Apple claim a portion of ad revenue. , and it’s an important tool for small businesses, but it affects a relatively small percentage of revenue for us. So it won’t affect our guidance for the 23rd.

A key component of the valuation is the average monthly revenue per user (“ARPU”). 3Q22 presentation shows that there is no social media company as Meta with respect to ARPU:

Target ARPU

ARPU goal (3Q22 presentation)

There was a moment from 4Q17 to 2Q20 when Meta’s margins were better, in such a way that they approached Google (GOOG) (GOOGL) in terms of operating income. These days, that’s not the case, as Google is further down the advertising funnel, so measuring its ads hasn’t been hampered too much by Apple’s privacy changes (AAPL):

Target operating result

Target operating result (Author’s spreadsheet)

As of 3Q22 release, 4Q22 revenue is expected to be $30 to $32.5 billion, and was $33.7 billion in 4Q21. F/X considerations are a substantial factor:

Our guidance assumes that foreign currency will be a roughly 7% drag on year-over-year total revenue growth in the fourth quarter, based on current exchange rates.

Meta has TTM operating income of $35.1 billion or $22,545 million + $46,753 million – $34,168 million on TTM revenue of $118.1 billion or $84,444 million + $117,929 million – $84,258 million. Given the long-term opportunities in digital advertising, I believe Meta is worth 12 to 18 times TTM operating income, or $420 to $630 billion when rounded to the nearest $10 billion.

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3Q22 10-Q shows 2,248,672,204 A shares plus 402,876,470 B shares outstanding as of October 21 for a total of 2,651,548,674. Multiplying this by the November 10 stock price of $111.87 gives us a market capitalization of nearly $297 billion. The value of the company is less than the market capitalization, since cash and equivalents exceed debt.

The market capitalization and value of the company are below my valuation range, and I think the stock is a buy for long-term investors.

Disclaimer: No material in this article should be relied upon as a formal investment recommendation. Never buy a stock without doing your own extensive research.

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