Meta Platforms (META -0.43%) investors were none too happy with its third-quarter earnings report, and management had to do something about it.

In response, management announced a round of cost-cutting measures, including laying off 11,000 employees. It slashed its expense outlook for 2023, paring back its capital expenditures outlook by $2 billion on the top end.

While Meta is cutting costs where it can, there's a key area where it's not going to stop spending.

Reviving the advertising business

Meta saw a huge spike in capital expenditures in 2022.

Management expects capex to climb nearly 70% year over year when all is said and done in 2022. And even with the pared-back outlook for 2023, Meta will increase capex by another 10% or so. What's more, Meta's increasing capital expenditures even as its revenue declines, leading to a substantial bump in capex as a percentage of revenue.

As management explained on its fourth quarter 2021 earnings call at the start of the year, the increase in capital expenditures "reflects a significant increase in our AI and Machine Learning investments." It reiterated that next year's increase will also go toward improving AI.

The AI investments are two-fold.

First, Meta is working on improving its recommendation algorithm for Reels and its feed products on Facebook and Instagram. Better recommendations will lead to more engagement among users, which will theoretically lead to more ad impressions. Meta can use the same recommendation engine to surface more relevant ads for its users, leading to more clicks for Meta's customers.

The second area of AI investments has to do with measuring the impact of advertising. Meta saw its advertising business upended when Apple instituted App Tracking Transparency last year. It went from being able to track a user who clicked on an ad and seeing explicitly whether they downloaded an app or bought something from a retailer to having no clue what happens after a user leaves the walled garden. Without good data on how well an ad converts, marketers aren't willing to spend as much on those ads.

In order to rectify that problem, Meta is building AI to help determine the likelihood that an ad converts into the desired user behavior. While it'll never be as good as having precise tracking data, enough investment in computing power and AI research should develop a pretty good model. As the AI improves, marketers will have greater confidence in their advertising conversions, and they'll be able to pour more money into the ads that the AI determines work best.

Massive investments in AI are necessary to revive the $100 billion advertising business that's been hampered by changes in the industry.

Building a business for long-term success

When Meta announced its plans to slash expenses and cut its capital expenditures budget, investors cheered. But the high levels of spending are necessary for Meta's future success.

While Meta was hit with a double-whammy of Apple's App Tracking Transparency and a slowdown in ad spending across the board, it's not slowing down its investments in improving its ad business. That leads to short-term pain as expenses take a big bite out of its profits. But investing now sets up Meta for strong growth going forward as the economy works its way through these uncertain times and overall ad spending returns to growth.

The market awarded Meta shares with a nice bump in price on the news of the lowered expense outlook. But with shares still trading for an earnings multiple of around 10, the market seems to be underappreciating the potential for growth coming out of the current economic environment.