Meta Platforms' (META -4.13%) stock has advanced nearly 50% so far this year as investors focused on its cheap valuation and cost-cutting efforts instead of the sluggish growth of its advertising business. The social media giant still looks cheap at 19 times forward earnings, and analysts expect its earnings per share to rise 11% this year as it reins in its spending and buys back more shares.
However, Meta still needs to stabilize its advertising business, update its algorithms to cope with Apple's privacy changes on iOS, counter ByteDance's TikTok with Reels, and show that its Reality Labs segment -- which houses its virtual and augmented reality products -- can expand and justify its billions of dollars in operating losses each year. It's unclear if Meta can check all those boxes in 2023, but four red flags suggest the tech giant is still struggling to adapt to this tougher market.
Image source: Meta Platforms.
1. Meta wants to copy Twitter
Meta copied plenty of features from its competitors, including stories and AR filters from Snap's Snapchat, video game streams from Amazon's Twitch, online dating tools from Match's Tinder, and short vertical videos from TikTok. A few of those efforts, such as Facebook and Instagram Stories, paid off. But many of the other copycat features, like its Pinterest clone Hobbi and its live shopping platform, were quietly discontinued.
That's why it wasn't surprising when Meta said it was "exploring" the development of a digital town square that would be similar to Twitter. It also recently copied Twitter Blue with "Meta Verified," a monthly subscription bundle for Facebook and Instagram that provides verified badges, additional security features, and higher visibility in search results.
The bulls might applaud Facebook's expansion into Twitter's backyard, since it could guide the heated discussions about news and politics away from its core platform. Subscription fees could also generate a fresh stream of revenue to offset the slower growth of its advertising business.
However, it could also be a bright red flag because it indicates Meta is running out of ideas and is starved for growth. Rolling out new Twitter-like features and subscriptions could also add another layer of clutter to Facebook and Instagram's ecosystems.
2. Meta paused its bonus payments for Reels
Back in December 2021, Meta launched its Reels Play bonus program, which provided monthly payouts to creators that hit certain view counts and other engagement thresholds. Those subsidies, which were similar to Snapchat's payments for its Spotlight short video creators, were aimed at helping Reels catch up to TikTok.
However, Meta recently announced that it would "stop extending new and renewed Reels Play deals for creators on Facebook and for U.S. creators on Instagram at this time" as it focuses on "evolving" that program. Snap also repeatedly reduced its payouts on Spotlight over the past two years.
At the same time, Meta said it would start to roll out more ads on Reels, which it previously said were harder to monetize than its News Feed ads. The combination of lower creator subsidies and more ad revenue might indicate that Reels is growing rapidly enough to be effectively monetized. But on the other hand, it could also be another red flag that tells us its subsidies simply aren't pulling enough content creators away from TikTok -- and that Meta will focus more on increasing its revenue per user with ads instead of aggressively growing an unprofitable audience.
3. Cheaper VR headsets are coming
Meta's Reality Labs segment only generated $2.2 billion in revenue in 2022, but it posted an operating loss of $13.7 billion. On its own, the segment reduced Meta's full-year operating margin by 12 percentage points.
This business is bleeding so much red ink because it sells its VR headsets at a loss in hopes of recouping those expenses through software sales. But at the same time, the company is still pouring billions of dollars into the development of more hardware, more software, and its own VR platform, Horizon Worlds.
Unfortunately, the market's demand for new VR and AR devices seems to be withering in this tough market for discretionary purchases. According to IDC, global shipments of VR and AR headsets plunged 21% in 2022.
That's probably why Meta recently reduced the price of its Quest 2 256 GB model from $500 to $429, and discounted the top-tier Quest Pro from $1,500 to $999. Those price cuts suggest the Reality Labs segment will continue to post steep operating losses this year.
4. Meta faces yet another round of layoffs
Lastly, Meta reportedly plans to launch another round of layoffs that could match the magnitude of its 13% workforce reduction last November. Those job cuts would be in line with CEO Mark Zuckerberg's plans to "flatten" its organizational structure and remove "some layers of middle management," but it also suggests the company's core businesses are still struggling to grow amid the macroecoomic and competitive headwinds.
I personally think Meta can weather these challenges and emerge a stronger company over the long term, but investors should do their homework and review all of these red flags before assuming it can bounce back this year.
