A blue-chip tech stock that has faced multiple bumps along the way is now working on its vision towards the metaverse. Here we share our analysis.
Heather Lim | Published on 11 Jan 2022
• Meta has had multiple backlashes with the most recent whistleblowing incident by Frances Haugen. We think that earnings will not be impacted and view this heightened scrutiny positively as it pushes the company to take steps towards creating a safer internet space.
• Apple’s privacy policy changes and the supply chain bottlenecks have posed as headwinds to Meta Platforms (NASDAQ: FB), which we expect to be temporary bumps as Meta maintains its strong moat in digital advertising.
• The metaverse vision is big, but if Meta can pull it off, it will be a huge growth driver. We like that the company continues to be a visionary tech company with plans to break boundaries in innovation.
• Applying a fair PE of 23X on 2023 earnings per share, we arrive at a target price of USD 410, giving investors an attractive upside potential of 25% at the closing price of USD 328 as of 10 January 2022.
Facebook has been battered with a series of negative news in the recent months – the whistle-blowing incident, the hours-long server outage, and the departure of its Chief Technological Officer (CTO). To add to the negativity, 3Q21 earnings missed expectations as the company faced obstacles from the changes in Apple’s privacy policy and supply chain bottlenecks, resulting in the stock’s decline. (Figure 1)
Then came a big announcement by CEO Mark Zuckerberg of the company’s rebranding from “Facebook” to “Meta”, quoting the reason that the company is much more than just a social media app alone. These events have left investors worldwide wondering what this means for the company.
Figure 1: Stock price of Facebook has been negatively impacted
We detail in this article why we think that Meta Platforms (NASDAQ: FB) will overcome the current headwinds and what we think about the Metaverse.
Scrutiny is good for the company
Whether in the US or China, regulations on big tech companies have heightened. Meta Platforms (NASDAQ: FB) has had multiple backlashes the past few years with the most recent whistleblowing incident by Frances Haugen.
On October 5th 2021, Haugen, a former employee blew the whistle on Meta, alleging that the company prioritised profits over user safety, citing issues surrounding danger to children, political radicalisation and more.
An example she suggested, was that because Meta undid algorithms that mitigated harmful and false content after the 2020 US election, it led to a number of Trump supporters believing that Joe Biden had stolen the election from Donald Trump, resulting in the January 6 Capitol riot.
Meta has also been blamed for many other issues including the rise of mental-health conditions and cyberbullying. However, like many other technologies, it is inevitable that a few social ills come along with the benefits it brings (such as allowing us to connect with loved ones far away).
Hence, despite the negative news, we see things from another perspective in that we like that the company is increasingly scrutinised and responding in a way that demonstrates its commitment to improving user safety.
For example, Meta has improved their screening for harmful content from previously only through reports by users, to using algorithms to identify such content like nudity or hate speech. The algorithms have enabled increased surveillance of content, identifying over 90% of the total harmful content.
Moreover, we do not expect this incident to impact earnings. Reason being is the complaints are not something new to Meta. In 2018, the company had to overcome the Cambridge Analytica Scandal, which they did, delivering impressive growth in the following years (Figure 2).
Secondly, advertisers have remained on the platform and showed no signs of boycott, as compared to the Stop Hate for Profit campaign in June 2020, with over 1000 advertisers boycotting Facebook. Even then the boycott barely made a dent on Facebook’s financials as the 1000 advertisers only make up a small percentage of the total 10+ million advertisers on Facebook.
Figure 2: Meta’s revenue 2018-3Q21
Tying these together, we think that the scrutiny and complaints are merely small bumps which will not significantly impact Meta’s earnings but act as catalysts to push the company towards creating a safer internet space.
Headwinds are temporary and Meta to maintain their moat in digital advertising
Meta Platforms (NASDAQ: FB) missed revenue estimates by -1.5% in 3Q21, which the company attributed to the change in Apple’s privacy policies and the supply chain bottlenecks. We expect these headwinds to be temporary and Meta to maintain its moat in the digital advertising landscape.
Apple changed its privacy policies earlier this year, allowing users to opt-out of activity tracking across apps and websites. This means that Meta will no longer have access to users’ app and website activity data, also known as third-party data, which reduces the effectiveness of their advertising targeting.
Nevertheless, Meta still has access to first-party data (views, likes, interests, demographics, etc.) and second-party data (first-party data from someone else like the brands/advertisers). Hence, the lack of third-party data should not have a huge negative impact on Meta’s advertising business.
After all, Meta still maintains its strong moat in advertising targeting, as they have comprehensive data of users including demographics and interests, which advertisers care about. Google on the other hand does not have such data, and their advertisements rely on what people search rather than on data that profiles users.
Meta has the largest user base and can profile users according to demographics, interests, and interactions with friends, which makes them one of the best platforms for targeting advertisements (Figure 3).
Figure 3: Meta has the largest number of users
Moreover, Meta is finding ways to work around the privacy changes and to enhance ad targeting. One of the ways is moving more signal onsite, through offering more advertising products such as “click to message ads”, and “shop ads”. These advertisements lead users to Meta’s messaging platforms or the Instagram shop page. With more signal onsite, Meta can gain data of users’ purchases and e-commerce activity, which further increases their ad targeting effectiveness.
The second headwind which Meta is facing is the slowdown in e-commerce activity in the US due to the supply chain bottlenecks. This has led to a decline in advertising spend, as businesses have run out of inventory to sell. However, this is not a major concern to us as we believe that this external headwind will pass, and when e-commerce demand returns, so will demand for digital advertising.
Overall, we think that Meta will continue to find solutions to enhance targeting and their advertising moat poises them to capture growth in the digital advertising industry (Figure 4). The company has also guided that the worst of the impact is over, and it will continue to deliver new strategies, such as Reels to engage users, which assures us of its continued growth momentum.
Figure 4: Digital advertising industry is poised for growth
Metaverse is a long-term investment
The Metaverse has become the talk of the town since Zuckerberg’s announcement in late October 2021. In short, the metaverse is a version of the sci-fi movies, like Avatar or The Matrix, coming to life. We think that we will see different layers of the metaverse over the coming years, and we like that Meta demonstrates continued visionary tech leadership.
Specifically, Zuckerberg views the metaverse as the successor of the mobile internet and his vision is to have an embodied experience, where communication will no longer be just a 2D form on a screen, but that we will feel as if we are right there with the person.
For example, instead of seeing grids on zoom/teams calls, we will have the ability to be in the same virtual room, or instead of viewing 2D squares on Instagram, we will be able to feel as if we are experiencing what is in the picture itself (Figure 5).
Figure 5: Prototype of a “Metaverse meeting” rather than a “Zoom meeting”
Zuckerberg continues to share that he is envisioning a mixed reality, where Meta’s technology will allow users to interact with items from the real world while in the metaverse (Figure 6), and likewise overlay digital items from the metaverse into the real world through holograms.
Figure 6: Interacting with real-world objects while in the virtual world
The dream is big but when it comes true, the Metaverse will be the next tech revolution after the smartphone revolution. Zuckerberg projects that the metaverse will reach one billion users and support hundreds of billions of dollars of commerce within the next decade.
But to get there, multiple technological breakthroughs, cooperation from developers, creators, legislative bodies, governments, and users are needed. Meta has already started this journey with early versions of the Metaverse through their augmented reality (AR) products including SparkAR and Ray-ban Stories, and virtual reality (VR) product Quest (Table 1).
Table 1: Meta’s plans & early developments
| Plan | Detail | |
| AR:SparkAR | Spark AR is Meta’s platform that enables creators to build AR experiences/ digital “worlds”, with horizon worlds and presence platform as the underlying technology enabler. Example: digital garden, digital game arena, digital fitness gym | |
| AR: Ray-Ban stories | Ray-Ban Stories is the first smart glasses that was launched in early 2021 that allows users to take pictures and videos. It is a step towards true AR glasses. |  |
| VR: Quest & Project Cambria | Quest is a virtual reality product, first launched in 2019. The company continues to develop the product to enable face and eye-tracking under Project Cambria. |  |
| Privacy and safety | Apart from technological advancement, policies need to be robust in ensuring safety. Zuckerberg emphasised the importance of privacy, calling for regulators to take action as well as announcing plans such as parental controls, and identity authentication mechanisms to prevent identity theft and stolen avatars. | |
| Financial reporting | From 4Q21, Meta will report Reality labs as a separate segment. The company currently reports in two segments – “Advertising” and “Payments and others”. Quest, Ray-Ban stories are currently reported under “Payments and others”. | |
| Source: Meta’s company report and website |
Meta Platforms (NASDAQ: FB) is not the only tech company investing in the metaverse, which makes us think that the metaverse is a possibility and not just some big unthinkable vision of Zuckerberg.
Most other big tech companies including Apple, Epic Games, Microsoft, Google, and Snap are investing in this area as well. For example, Snap has announced its first pair of AR glasses, which are not available to the mass-market for now but instead is available to developers and content creators, so that they can first build up a collection of experiences and filters.
Our take on the Metaverse is that different versions of it will materialise in the coming years. Will the vision be met eventually? Will Meta emerge as a leader in both AR and VR or one of them? We think it is hard to say for now, but we do like the drive by Meta to lead in tech innovation.
What we foresee is margin compression as Meta invests in the long-term growth of the company. The company has guided heavy investments in the metaverse business, projecting a USD 10 billion loss in 2021 coming from the Facebook Reality labs (Metaverse business) segment, which is expected to increase in the coming years (Figure 7).
Figure 7: Margin compression to be expected as Meta invests in the Metaverse
Although the heavy investments may weigh on the company’s bottom line in the near term, we like that resources are being put to good use as investing in the long-term growth of the company is important and brings value to shareholders. Moreover, Meta has a strong balance sheet and cash position to fund these ventures.
Key investment risks
Inflationary risk: In an inflationary environment, firstly, we can expect interest rate hikes. Higher interest rates could result in a lower valuation of Meta’s stock. However, we think that with strong earnings performance, Meta should continue to do well.
Secondly, companies that have low pricing power will bear the brunt of the rising costs. Therefore, we like that Meta’s moat in digital advertising will give them pricing power and hence will not be at the losing end.
Tough competition: TikTok has been a major competitor in the social media arena, with Tiktok gaining popularity among younger users, which Meta is struggling with. However, Meta is working on plans to acquire more young users such as its new addition Reels. Competition in the AR/VR space is also heating up with Meta facing up against Apple, Microsoft, Google, and Snap, etc.
25% upside potential
We think that Meta Platforms (NASDAQ: FB) will maintain its moat as it undergoes this stage of transition as external (Apple’s privacy policies) and internal (improving user safety, and investment in the metaverse) changes are made. With its competitive moat in digital advertising and strong user base, we expect Meta to continue to deliver earnings growth (Table 2).
Table 2: Earnings table
| 2020 | 2021E | 2022E | 2023E | |
| EPS | 10.1 | 14.0 | 14.8 | 17.8 |
| Earnings Growth | 57% | 38% | 6% | 20% |
| PE Ratio | – | 23.4 | 22.1 | 18.5 |
| Upside Potential | – | – | – | 25% |
| Source: Bloomberg Finance L.P., iFAST EstimatesData as of 10 January 2022 |
Applying a fair PE of 23X on 2023 earnings per share, we arrive at a target price of USD 410. This gives investors an attractive upside potential of 25% at the closing price of USD 328 as of 10 January 2022.
We believe that Meta Platforms (NASDAQ: FB) deserves a 23X PE, in-line with its 5-year historical average, given its advertising moat and strong user base. In the long-term, with further development and clearer visibility of the success of Meta’s metaverse ventures, there remains an upside re-rating potential for the stock.
Figure 8: In the long run, share prices are driven by earnings
