The Nasdaq Composite has been on a raging bull run as investors feel confident about the state of the economy and the possibility of interest rate cuts. This robust market environment has propelled some businesses more than others.
Meta Platforms (META 1.18%) has been a huge beneficiary. The social media stock has skyrocketed 460% in the past 17 months. This means a $1,000 investment back then would be worth $5,600 today, a fantastic gain in less than two years' time.
Even though shares still look reasonably valued, at a current forward P/E ratio of 25.4, investors need to know these three things before even considering buying the stock.
1. Meta is a leader in digital advertising
Meta's crown jewel segment is the family of apps, which includes popular social media services like Facebook, Instagram, WhatsApp, and Messenger. Because these services are free, the business generates the vast majority of its revenue -- 98% in 2023 -- from advertising.
Because of Meta's wide reach and high engagement, it has become a digital ad powerhouse, commanding an estimated 20% of the U.S. industry's market share in 2023, according to Statista. Only Alphabet is ahead of Meta.
The positive view is that this industry still has sizable growth potential, particularly as internet users and usage increase over time. This essentially expands the virtual real estate needed to display ads. Meta, with its ability to collect invaluable data, target specific users, and introduce AI tools, will only improve its services for ad customers.
Investors should also understand that the digital ad market has proven to be somewhat cyclical. As the Federal Reserve started hiking interest rates in 2022 in anticipation of an economic downturn, marketing executives pared back spending, which led to a temporary slowdown in the industry.
NASDAQ: META
Key Data Points
2. Meta benefits from network effects
Those four social media apps I mentioned have almost 4 billion monthly active users. That is a colossal figure that represents nearly half of the global population. This gives Meta unrivaled reach and scale.
The result is that this business benefits from powerful network effects. Its users are also the ones creating content, which leads to a positive feedback loop that makes the apps better over time. This is precisely what makes up Meta's wide economic moat.
This should give prospective investors confidence because the company's competitive position isn't likely to be disrupted anytime soon. Meta facilitates social connections and interactions, which is a basic human need that isn't going to change.
To be fair, anyone with some funding and coding skills could in theory develop and launch a new social media app in no time. The issue, though, is that gaining enough scale and adding enough users will be an impossible task. Why would people gravitate toward a service that not everyone else is using? This dynamic gives Meta the upper hand.
3. Meta is focused on efficiency
Part of the reason Meta's stock tanked in 2022 was because shareholders weren't pleased with the company's aggressive spending. Meta's operating margin went from 40% in 2021 to 25% in 2022. It also didn't help that founder and CEO Mark Zuckerberg was relentlessly focused on his metaverse ambitions.
But Meta did a wonderful job driving efficiencies over the course of 2023. Total costs and expenses essentially remained flat compared to 2022, leading to an expanding operating margin that came in at 35% last year. Huge numbers of employee layoffs helped in this regard.
Meta is focused on investing more in its AI capabilities. But it's extremely encouraging to know that the business still generated $43 billion of free cash flow in 2023. And it has a $47 billion net cash position on the balance sheet, demonstrating its financial fortitude.
Investors looking to buy shares now understand that Meta is a leader in digital advertising that benefits from powerful network effects. Plus, this is a very profitable enterprise. All this means that perhaps it's a good idea to add the stock to your portfolio.
