Technology stocks had a huge bull run in 2020 thanks to the easy monetary policies, but that all came crashing back down in 2021 and 2022 as rising interest rates and the declining economy reversed the easy access to increasing amounts of debt. Additionally, many tech companies overly hired and aggressively expanded in 2020 because they though the easy monetary policies would last forever. Many of the share price declines may have been justified, but in this article, we will go over two technology stocks that I believe were unfairly caught up in the selloff; let’s dive in.
1. Meta Platforms
Meta Platforms (META) is the world's leading social media company that owns Facebook, Instagram, Messenger and WhatsApp.
The company had previously been spending huge on developing the Metaverse, which is the main reason why its costs went up and its stock price plunged. However, on March 14, CEO Mark Zuckerberg announced a “year of efficiency,” i.e. cost-cutting, so the company can improve its financial performance in order to “meet its long term goals."
This plan will include a variety of initiatives from improving developer productivity through better tooling to a restructuring of the business. This will likely involve removing layers of middle management, and Meta’s technology recruiters were announced to be the first of the employees to be layed off. The overall impact will involve a reduction in 10,000 jobs and the closing of 5,000 job listings which haven’t been hired for yet. This may seem like a huge amount of people, but relative to Meta's 71,970 employees, this equates to just 13.8% of the company's workforce.
Zuckerberg also announced plans to stop low priority projects, and he reiterated a quote from his IPO letter in 2012: “We don’t build services to make money; we make money to build better services.”
On March 18, Meta Platforms announced the launch of its Meta Verified program, in which users can pay $14.99 per month for the prestigious “blue tick." This idea looks to have been inspired by Twitter. Although this move has gained backlash from some users, I believe it will be adopted because of the benefits. Being verified means a user will gain increased visibility and reach in search, comments and recommendations, something that Meta normally restricts as accounts get larger. This move should also help to diversify Meta’s revenue from advertising, which can often be a volatile market.
Fourth quarter financials review
Meta reported improving financial results for the fourth quarter of 2022. The company generated revenue of $32.2 billion, which increased by 16% sequentially and beat analyst forecasts by $475 million. However, it should be noted the company’s revenue is still down 4.5% year over year from the $33.67 billion reported in the same quarter last year. This decline was mainly driven by lower advertising driven by the macroeconomic environment.
Given Meta makes the vast majority (97%, or $31.3 billion) of its revenue from advertising, the company is synonymous with ad spending.
The business has also faced challenges in monetizing its “Reels” video format, which is similar to TikTok's short form videos. This wasn’t a surprise to myself given Alphabet (GOOG, Financial)(GOOGL, Financial), which owns YouTube, had reported similar issues monetizing its “Shorts” video format. As these videos are short, running ads on them can be challenging. This is especially true given the fast paced manner users scroll through Reels and other short form video formats. A positive is new format monetization is always a challenge but a solvable one. Given Meta runs its advertising platform as a “marketplace," the Cost per Mille (CPM) advertising rates should adjust as the format matures.
Another positive for Meta is the company has still being growing its user base despite misconceptions that the company's social media platforms are in decline. Its Family Daily Active People rose from 2.82 billion in the fourth quarter of 2021 to 2.93 billion by the fourth quarter of 2022, which is a positive sign. Therefore revenue growth should follow this leading indicator as the advertising market improves.
Moving on to profitability, Meta reported a ~55% decline in its net income to $4.6 billion, which was pretty atrocious. A positive is this was mainly driven by the Reel video issues and Metaverse investments. The company saw a 22% increase in its operating expenses to $25.76 billion in the fourth quarter of 2022.
Meta invests a large portion of its expenses into R&D, with over $8.28 billion invested in the recent quarter, up from $7 billion a year ago. Therefore, despite challenges with its core business, Meta is still investing for the future. This is a risky tactic, but it could pay off if its bets on industries such as the Metaverse turn into profitable endeavours.
Valuation and guru investors
Meta trades at a forward price-earnings ratio of 18.9, which is 19.9% cheaper than its five-year average.
The company also trades at a price-sales ratio of 4.2, which is over 46% cheaper than its five-year average.
The GF Value chart indicates a fair value of $377 per share. The stock is trading at ~$179 per share at the time of writing and thus it is “significantly undervalued."
In terms of guru investors, according to the latest 13F filings, Tom Gayner (Trades, Portfolio), First Eagle Investment (Trades, Portfolio) and 28 other gurus purchased shares of Meta in the fourth quarter of 2022, during which shares traded at an average price of $117.43.
Investors should be aware that 13F reports do not provide a complete picture of a guru’s holdings. They include only a snapshot of long equity positions in U.S.-listed stocks and American depository receipts as of the quarter’s end. They do not include short positions, non-ADR international holdings or other types of securities. However, even this limited filing can provide valuable information.
2. Netflix
Netflix (NFLX, Financial) is the world's most popular streaming company, with a 21% stake in the U.S. market alone, according to MediaPlayer data. The business has faced a number of challenges since recording a loss in subscribers during the fourth quarter of 2021. This was mainly driven by the pull-forward in demand due to Covid, followed by the reopening of the economy, as well as increased competition from Disney+ (DIS, Financial), Amazon Prime video (AMZN, Financial) and others. A positive is the company has enacted a series a changes that make me think a recovery is in sight.
In its most recent earnings report, the business reported a 4% year over year increase in its subscribers to 230.75 million paid members. Netflix has also scored a partnership wit Microsoft (MSFT, Financial) to run an advertising based subscription option. In addition, Netflix announced that it will now be charging extra fees for shared accounts. Previously, if users paid for the tier with four screens, those four screens could be anywhere; now, they have to be in the same physical location, or else Neflix will charge extra.
Latest earnings report
For the fourth quarter of 2022, the company reported $7.85 billion in revenue, which rose by 1.9% year over year. This was of course a slow growth rate for a “growth company” such as Netflix, which previously grew its revenue by a rapid 24% year over year in 2020.
A silver lining is the rising strength of the U.S. dollar did cause a tailwind against its international revenue. On a foreign exchange rate neutral basis, the company reported a 10% increase in revenue year over year.
Netflix has also shown its brand has “pricing power” by increased its average paid member cost by ~4% without suffering another net subscriber loss.
Netflix reported $550 million in operating income, which dropped by 13% year over year. Management blamed a $462 million “non-cash” expense related to its ~$5 billion in Euro debt.
A positive is the currency markets tend to be cyclical by nature and thus a long term rebound wouldn’t be a surprise.
Valuation and guru investors
Netflix trades at a forward price-earnings ratio of ~30, which is 45% cheaper than its five-year average.
The company also trades at a price-sales ratio of 1.2, which is 46% cheaper than its five-year average.
The GF Value chart indicates a fair value of ~$639 per share. The stock is trading at ~$300 per share at the time of writing and thus it seems deeply undervalued. The GF Value calculation does warn of a possible “value trap” due to the declining profitability and dropping growth rates, which is a risk.
Final thoughts
Both Meta and Netflix are two companies that have faced headwinds over the past couple of years. A positive is they both still have a strong core business and are on the road to recovery after management has enacted a series of changes. Both companies has seen improvements in user growth and thus when the advertising market rebounds, Meta’s core business should grow. Netflix should also perform strongly now that it's charging extra fees for shared accounts.
