In June 2021, Facebook gained a brief boost by changing its name to Meta Platforms (META -10.56%), as Mark Zuckerberg saw the future in virtual worlds. However, reality didn't take long to intrude into Zuckerberg's fantasies, and the stock dropped close to 58% from its all-time high of $384.33, reached in September 2021. But if you think Meta is now a bargain, think again. Here are three reasons to stay away from Meta Platforms.
1. A dramatic slowing of Meta's digital ad market
Zuckerberg said two things on Meta's first-quarter 2022 earnings call that disappointed investors. First, he noted that monetizing the company's short-form video efforts would take time. Second, he talked about how Apple's iOS changes had become a meaningful headwind to the ad business.
In the second quarter, Zuckerberg greeted Meta investors with even worse news when he said that the economy is already in a downturn, hurting its ad business. And you can see proof of the falloff by looking at its average price per ad, which declined by 14% year over year during the quarter.
Since no one ultimately knows how severe and prolonged Meta's ad slowdown will last, the short term could prove very rocky for its stock performance. And if you choose to invest in Meta at this point, you should go in knowing that a quick turnaround is unlikely until the economy improves.
2. Meta is pausing hiring and cutting back on investments
Warren Buffett once said, "Only when the tide goes out do you discover who's been swimming naked." Over the last several months, it has become more evident to investors which companies failed to put on their bathing suits.
A few companies will remain disciplined investors during good times, and when bad times appear, such companies retain the ability to continue hiring and investing throughout the downturn.
But many other companies take numerous unwise risks when the economy is percolating. And when conditions finally turn poor, these companies quickly pause hiring, lay off workers, and cut out many investments. Meta Platforms seems to fall into this latter category.
According to the website The Verge, Meta paused hiring for specific engineering roles, recruiters, and low-level data scientists in May of 2022. The product teams impacted by the freeze include Facebook Dating and Gaming, Messenger Kids, the e-commerce team, and the team created to build features to better compete with Zoom Video Communications.
More layoffs could occur depending on how severe the slowdown eventually becomes. The danger for Meta is possibly gutting too many high-potential growth areas in the name of savings, damaging its long-term earning ability.
3. Investing in the metaverse is very risky
Zuckerberg's big bet is to evolve Facebook's social network beyond 2D screens into a next-generation social platform designed for 3D virtual-reality and mixed-reality worlds -- the metaverse.
But Zuckerberg's metaverse strategy has several problems. First, the metaverse could take excessive time to be brought to life. Meta Platform's board of directors has said in a Securities and Exchange Commission filing that many of the company's metaverse products might take 10 to 15 years to become viable.
Second, it could be costly to bring the metaverse to life. In 2021, the company estimated allotting $10 billion to metaverse investments, approximately 50% of capital expenditures.
Third, the company's board believes that the metaverse will require stringent privacy and safety controls. Investors should be rightly concerned here since the company has an abysmal history of implementing these controls.
Is Meta Platforms now a value investment?
The market values the company at 13.4 times trailing-12-month earnings, a discount to the S&P 500 (currently at 20.5). Consequently, some think Meta is now a value stock, considering its potential metaverse upside.
In the short term, its investors are counting on the company's strong balance sheet and massive free cash flow ($35.8 billion on a trailing-12-month basis as of June 2022) to see Meta through the current economic storm.
Nevertheless, the long term is all about the metaverse. The total addressable market (TAM) for the metaverse ranges from $800 billion to approximately $12.5 trillion, depending on which organization is calculating it. The market is enormous, and if this company can grab a notable chunk of that TAM, people investing in the stock at current prices stand to make a fortune over the next five to 10 years.
However, everyone should be mindful of the enormous risks. There is a significant chance that this company could spend over a decade and billions of dollars in capital on the metaverse, only to see the investment fail to pay off for many different reasons. The metaverse experiment could potentially destroy company value, and investors would be left with little to show for their money.
