I am neutral on Meta Platforms (NASDAQ: META) stock, one of the world’s most prominent social media and technology giants, at the moment. I think it’s likely overstated due to market enthusiasm for the Meta’s new focus on efficiency and profitability.
While I believe management’s tighter focus on profitability represents strength for the company moving forward, it is still likely to face challenges with revenue expansion, significantly impacting its ability to expand its net income. As a result, I think the stock may experience short-term downside volatility based on its high valuation.
The year of efficiency gains is coming to an end
Meta shares are up 78.5% over the past 12 months. Mainly, this is driven by strong results after Meta’s “year of efficiency”. For example, the company’s net profit for Q4 2023 increased by 204% compared to Q4 2022. However, these results were mainly the result of short-term cost reductions, including 20,000 layoffs, as opposed to long-term growth factors. These efficiency gains cannot be sustained forever despite the promise of AI and automation.
Due to the nature of these recent gains, Meta’s valuation has become potentially too high in my opinion. Historical growth rates in GAAP earnings and free cash flow are unlikely to be sustained. Management has achieved 73.11% GAAP earnings growth and 39.11% revenue growth over the past year as a result of the year of efficiency. However, earnings growth for Meta over the next five years and beyond is unlikely to expand much from its historical five-year average of 22%, in my view.
AI & Automation Factors
As I mentioned, AI and automation are a big part of what Meta is investing in for its future. The company will likely be able to work to maintain its revenue growth rates through AI-powered advertising and generative AI (such as the large language model LLama 3 and the Meta AI assistant). However, this is a double-edged sword in the near term, because the company is spending up to $40 billion on AI in 2024.
These investments are obviously crucial for the company to remain competitive, but in the near term, the effects on the company’s cash flow and profitability are likely to have an impact on the stock price. Moreover, competing in AI will be very capital intensive in the long term, which will likely reduce benefits and revenue opportunities in the near future until its AI infrastructures have a wider gap. reliable.
Potentially overrated
Despite Meta’s strong long-term growth trajectory, in the near term, I think a correction in its price is likely as its growth rates normalize and medium-term market expectations become more moderate. The stock currently has a price-to-sales ratio of 9.15x, which is 23.60% higher than its five-year average of 7.40x. Additionally, its GAAP price-to-earnings ratio is 29.36x, which is 11.37% higher than its five-year average of 26.36x.
I think some caution is called for due to the valuation at this point. If the price were cheaper, the Meta would seem like an excellent long-term investment to me. But at the current high price-to-sales ratio, I’m skeptical about the equity allocation because the valuation significantly reduces the long-term returns I’m likely to achieve.
Because the company’s earnings are unlikely to continue to grow as they have historically, I think the price-to-sales ratio is likely to shrink over the next decade. If the ratio is around 7x in 2034 and earnings grow at a rate of 12.5% per year over the period, the stock price would be approximately $1,260, implying a price CAGR of approximately 8.8%, as current earnings per share is $55.67 and Current Stock Price is $540.
Is Meta Stock a Buy, According to Analysts?
Turning to Wall Street, Meta has a strong buy consensus rating based on 37 buys, three holds and two definite sells in the past three months. At $527.68, Meta stock’s average price target implies 2.3% downside potential in the next 12 months.
In my opinion, I think the potential for negative returns over the period has been underestimated by analysts. Because I look for a minimum of 10%+ returns over 12 months, Meta stock seems worthy of a neutral rating.
Takeaway: The meta has valuation risk
The long-term outlook for Meta remains strong as management continues to build a moat on AI infrastructure. The potential for it to begin automating more advanced enterprise tasks also opens up room for profitability gains. Moreover, the recent issuance of a dividend by the company is a benefit to long-term shareholders.
However, in my opinion, the valuation risk is high at the moment. As a value investor, I am looking to buy quality growth stocks at a reasonable price. It seems impossible for Meta stock to be fairly valued and certainly not undervalued at current levels based on my analysis and research.
DISCLOSURE