Since last October, I've expressed concern that Facebook parent Meta Platforms (META 2.11%) is spending more and more money for less and less benefit. In light of last quarter's numbers, though, I'm reassessing that worry. While the company's spending remains relatively high and its net income is still relatively low, we've now seen a couple of consecutive quarters of clear fiscal progress.
The dynamic certainly makes Meta stock much easier to own now ... not that its fairly continuous rally since late October suggests that investors were facing this problem.
Just don't get too comfortable with the current trend.
Lower costs have led to higher profits
As a quick recap, Meta's revenue grew 11% year over year in the second quarter to $32 billion, leading to 12% growth in operating income and 16% growth in net income. Earnings per share of $2.98 not only topped estimates of $2.91, but grew by an impressive 21% from the prior-year period's $2.46. (On the order of 100 million shares were taken out of circulation in the meantime, further boosting per-share profitability.)
Investors who looked closely at the company's second-quarter report likely know that neither user growth nor revenue per user deserves the bulk of the credit for Meta's profit improvements. Its result of 3.88 billion companywide monthly users was only 6% better than its user count from a year prior, while companywide average revenue per user (ARPU) of $8.32 was only 5% higher than Q2 2022's figure of $7.91.
Rather, its oversized income growth stemmed from cost-cutting, which didn't crimp its ability to do business. In fact, the company's top-line growth accelerated.
The image below fleshes out one half of the dynamic. After costs swelled through Q3 2022 and held steady in Q4, management began trimming them down. Meta has done really well dialing back its, sales, marketing, and R&D spending.
Image source: Meta Platforms second-quarter 2023 earnings call slide deck.
Although those costs are still relatively high, it's progress.
The end result of these cost curbs has been more money reaching the bottom line. The second quarter's net income of just under $7.8 billion was still markedly lower than Meta was reporting in 2021. But, it was well up from the weak profit levels seen in late 2022, when the company's spending was sky-high. In fact, last quarter's sequential profit growth was the fastest growth Meta had seen in a long while.
Image source: Meta Platforms second-quarter 2023 earnings call slide deck.
And the stage seems set for more of the same. Meta is forecasting Q3 top-line growth of around 15% to between $32 billion and $34.5 billion, versus analysts' consensus estimate of $31.3 billion. Assuming the current spending framework doesn't change, net income is apt to keep growing at its current pace as well.
That said, current and would-be shareholders may not want to get too comfortable with the company's current degree of cost containment. Spending may be about to ramp up again.
Spending could swell again, and soon
We don't know how much more spending is in the cards. And we certainly don't know if outlays will swell to the same degree they did last year.
The company is subtly prepping the market for something along those lines, however. As Meta's Q2 report explains:
"First, we expect higher infrastructure-related costs next year .... We also expect to incur higher operating costs from running a larger infrastructure footprint. Second, we anticipate growth in payroll expenses as we evolve our workforce composition toward higher-cost technical roles. Finally, for Reality Labs, we expect operating losses to increase meaningfully year-over-year due to our ongoing product development efforts in augmented reality/virtual reality."
The outlook goes on to say, "while we will continue to refine our plans as we progress throughout this year, we currently expect total capital expenditures to grow in 2024, driven by our investments across both data centers and servers, particularly in support of our AI work."
What's that mean? It's hard to say. Some of the language is just boilerplate stuff.
It's not crazy, however, to wonder if it's a warning that another spending surge is brewing. Artificial intelligence infrastructure isn't cheap. Meanwhile, after laying off thousands of employees over the course of the past few months -- with the savings to show for it -- Meta may be on the verge of re-adding some or all of the spending it cut.
That prospect certainly makes sense. Given the current suppressed state of the digital advertising market, Meta's sudden profit rebound arguably feels a little too robust to be sustainable.
Is Meta worth the risk?
As the adage goes, you have to spend money to make money. It's unfair to criticize Meta for making investments in its future, even if the potential payoffs for much of this spending aren't crystal clear.
It's not unfair for investors, however, to entertain doubts that Meta's current profit growth trend isn't built to last. The appeal of Facebook is still waning, after all, with market research outfit Oberlo (based on data from eMarketer) reporting consumers are now spending less time with the social networking site than they are with TikTok, Twitter, or even Snapchat. Moreover, with more than 3 billion users, Facebook may be near the point of market saturation. Ditto for Meta's Instagram. The next billion users for any of its platforms could be much tougher -- and much more expensive -- to come by. That is, if they can be won over at all.
Bottom line? Be cautious here. The media rhetoric is bullish and the stock is rallying. Analysts are wildly bullish on Meta, too. That leaves its shares all the more vulnerable in the event of unexpected hits to the company's profit rebound. It wouldn't be crazy to lock in some profits while shares are benefiting from this "as good as it gets" backdrop and then wait and see how things take shape.
