The metaverse has served as a proverbial punching bag over the last few months as Mark Zuckerberg, the CEO of Meta Platforms (META -0.52%), has revealed more of his company's vision for the virtual world.
It seems many commentators in the tech sector aren't impressed, casting doubts over whether spending time in virtual reality is truly what consumers want. Investors are also losing patience with Meta's multibillion-dollar expenditure on the project, which is denting the company's bottom-line financial results.
Meta released its third-quarter earnings report on Oct. 26, and its stock swiftly declined by 22% the following day. It has now lost 73% of its value since hitting an all-time high of $378.69 in 2021, but here's why there's a long-term opportunity in the wreckage.
Why investors are shunning Meta Platforms
It's no secret the global economy is weak right now. Consumers are being hit by high inflation and rising interest rates, causing their pool of disposable income to shrink, which is flowing through to the corporate sector's results.
Meta Platforms is feeling the effects more than most companies because it's reliant on advertising across its core Facebook, Instagram, and WhatsApp platforms. When businesses sense weakness in the consumer, they slash their marketing budgets for fear of a lower return on their investment.
As a result, Meta's revenue has trended sideways in 2022, and its third-quarter result represented a 4% decline compared to the same period in 2021.
But while that's going on, Meta is also spending heavily on its metaverse project through its Reality Labs segment, and that's a major source of frustration for investors. Reality Labs showed an operating loss of $3.6 billion in Q3, and as the segment's losses have steadily trended further into negative territory, they've dragged down Meta's total net income.
Investors might be wondering why Meta is sacrificing so much of its profit for the metaverse, which could be years away from bearing fruit, especially during such a difficult economic period where many other companies are slashing costs -- and it's a perfectly valid concern.
Meta faces challenges, but here are some positives
Yes, Meta is struggling in the face of economic weakness. And yes, its core platforms are also under siege from the new kid on the block -- its fierce competitor, ByteDance's TikTok. That short-form video platform has become the fastest-growing app in history, and ByteDance is on track to generate $95 billion in revenue during 2022, so it's rapidly catching up to Meta, which is expected to bring in about $116.9 billion.
But Meta isn't alone on these issues. Its longtime rival, Snap Inc., just delivered a sluggish quarterly result of its own. Meta does have a couple of advantages over Snap.
It has rapidly adapted to the TikTok threat by debuting its own short-form video iteration called Reels, which last quarter was on track to generate $1 billion in annual advertising revenue on Instagram -- but that run rate is now estimated to be $3 billion across Instagram and Facebook. Plus, engagement on Reels has grown by 50% in the last six months, with 140 billion plays per day.
The problem is that Reels is stealing eyeballs from feed and story content, but Reels monetizes at a lower rate, which is impacting the company's revenue-earning potential. However, this is a gap Meta expects will close within the next 12 to 18 months.
That brings us to perhaps the most important point. Across its family of apps, Meta is still seeing user growth. That's remarkable for a group of social media platforms that have been around for a decade or more and which boast 3.7 billion monthly active users -- or almost half the population of the entire planet. If the Reels monetization gap closes and Meta's user base continues to expand, it could lead to a surge in revenue over the next couple of years.
Meta stock is now trading at an attractive price
The economy won't remain weak forever. Meta still has a growing user base, engagement is soaring on its new Reels platform, and it's confident it will monetize the new format at an increasing rate over time. And that's without mentioning the potential rewards from its metaverse investments over the next decade, which could be significant given an estimate by venture capital firm Epyllion pegs the opportunity at up to $30 trillion.
In the short term, Meta Platforms appears to be a shrinking business. That phenomenon is never well-received by investors if it wasn't already obvious from the stock's dismal performance since last year.
Meta stock now trades at a price-to-earnings ratio of just 9.5 (based on its trailing-12-month earnings per share of $10.49). That's a 58% discount to the Nasdaq-100 tech index, which trades at a ratio of 23 -- in other words, Meta stock would have to more than double from here just to trade in line with its peers in the technology sector.
The metaverse is a great unknown right now, but it's also not the core reason to buy Meta stock at the current price. Long-term investors may have to live with Mark Zuckerberg's sizable bets on the virtual world, but as the economy improves, Meta's top and bottom lines should start to recover on the strength of its social media apps alone.
