Is Meta Platforms Stock a Buy?

Meta Platforms' (META 0.07%) stock jumped 12% during after-hours trading on April 26 following its first-quarter report. The social media giant's revenue rose 3% year over year to $28.65 billion and beat analysts' estimates by $990 million.

Its net income fell 24% to $5.71 billion. Its earnings per share (EPS), which was buoyed by $9.22 billion in buybacks during the quarter, dropped 19% to $2.20 but still cleared the consensus forecast by $0.23.

Those better-than-expected numbers brought back some bulls, but Meta's stock remains nearly 40% below its all-time high. Is it time to hop aboard before Meta's stock recovers, or does it still face too many near-term headwinds?

Image source: Meta Platforms.

Meta's advertising business is stabilizing

Meta's advertising business, which accounted for 98% of its revenues in Q1, suffered a severe slowdown over the past year. After rising 21% in 2020 and 37% in 2021, its ad revenues declined 1% in 2022.

That deceleration was caused by Apple's (AAPL 0.07%) privacy changes on iOS (which made it difficult for Facebook and Instagram to deliver targeted ads driven by third-party data), stiff competition from ByteDance's short video platform TikTok, and the macro headwinds for the broader advertising industry. But in Q1, Meta's advertising revenues rose 4% year over year and finally ended the segment's three-quarter streak of declining revenues.

Data source: Meta Platforms. YOY = Year-over-year.

Meta mainly attributed that acceleration to elevated spending from Chinese e-commerce companies, which ramped up their ad purchases on Facebook and Instagram to reach more overseas buyers. That growth offset the macro-induced softness of the financial and tech verticals. A 26% increase in its ad impressions also offset a 17% decline in average ad prices.

Meta's ecosystem also continues to expand. Its Family of Apps (Facebook, Instagram, Messenger, and WhatsApp) served 3.81 billion people on a monthly basis, representing 5% growth from a year earlier. Within that total, Facebook's monthly active users (MAUs) grew 2% year over year to 2.99 billion. That ongoing expansion ensures that Meta should remain a top advertising platform alongside Alphabet's (GOOG -1.08%) (GOOGL -1.14%) Google for the foreseeable future.

As for Apple's iOS changes, Meta continues to pivot from third-party data to first-party data (gathered within its own apps) to craft more effective targeted ads. To counter TikTok, Meta is expanding its short video platform Reels across Facebook and Instagram. During the conference call, CEO Mark Zuckerberg said its users were "resharing Reels more than two billion times every day" -- and that figure had doubled over the past six months.

But its margins are still declining

The stabilization of Meta's advertising business is encouraging, but its total operating margin still fell six percentage points year over year to 25% in Q1. Even if we exclude $1.14 billion in restructuring charges related to its recent layoffs, its operating margin would still have shrunk by two percentage points.

That contraction was largely caused by its Reality Labs segment, which houses its virtual reality and augmented reality (VR/AR) products. Its Reality Labs revenues declined 51% year over year to $339 million as it sold fewer Quest 2 headsets, and the segment's operating loss widened from $2.96 billion to $3.99 billion.

By comparison, Meta's Family of Apps division generated an operating profit of $11.2 billion in Q1, and its operating margin only dipped two percentage points year over year to 40%. That's why some investors argue that Meta should either shutter or spin off the struggling Reality Labs segment to stabilize its margins.

But that won't happen anytime soon. During the call, CFO Susan Li said Meta expected the Reality Labs segment's operating losses to "increase year over year in 2023." Zuckerberg also noted that "building the metaverse is a long-term project."

Meta's commitment to the metaverse will likely remain a divisive topic, but investors should note that Alphabet also posted an operating margin of 25% in Q1. Just as Meta subsidizes the growth of Reality Labs with its higher-margin advertising business, Alphabet subsidizes the expansion of its lower-margin cloud and hardware divisions with its core advertising business. Therefore, Meta's metaverse ambitions don't necessarily make it a worse investment than Alphabet -- as long as you believe Meta can actually turn VR into the next big computing platform.

Brighter days could be ahead

Meta expects its revenue to rise 2% to 11% year over year in the second quarter, compared to the consensus forecast for 2% growth. It also plans to continue repurchasing more shares, and its $37.4 billion in cash, cash equivalents, and marketable securities gives it plenty of room for fresh investments.

Analysts expect Meta's revenue and earnings to rise 5% and 16%, respectively, for the full year. The stock still looks reasonably valued at 22 times forward earnings, and it could easily recover from its slump if the macro environment improves. Therefore, I believe Meta is still worth buying before it overcomes its near-term challenges.