Meta: A Free Cash Flow Machine
Opdateret: for 6 dage siden
So far Meta has had a bad year and the stock is down more than 50 % since the start of the year. There are many opinions on Meta as a company and I understand that it isn't an investment for everyone. However, Meta is still generating a lot of cash, which we will see later in this analysis. Is it time to buy Meta? I will try to give you the answer in this analysis.
This is not a financial advice. I am not a financial advisor and I only do these post in order to do my own analysis and elaborate about my decisions, especially for my copiers and followers. If you consider investing in any of the ideas I present, you should do your own research or contact a professional financial advisor, as all investing comes with a risk of losing money. You are also more than welcome to copy me.
Since I have attended the workshop with Phil Town, I have decided to change the layout of my analyses a bit. I will do some more calculations and also briefly go through why the company has meaning to me. If you want to read more about how I evaluate a company, please go to "MY STRATEGY" on my website.
For full disclosure, I should mention that at the time of this writing I do own shares in Meta. It is currently 3,14 % of my portfolio that you can copy. If you are interested in copying me or see my portfolio, you can read how to do so here. Despite me owning Meta, I will keep this analysis unbiased.
I think that most people know that Meta is a social media and social networking service. Besides their flagship Facebook, they also own a bunch of other companies such as Instagram (photo and video-sharing app), WhatsApp (mobile messenger service), Oculus VR (virtual reality technology company), Onavo (mobile web analytics) and Beluga (messaging service) plus a bunch more. Meta is making their profit through advertising and is one of the largest advertising companies in the world. I do not want to go too much into details with the company, as it is so well known. However, you should know that Meta has two business segments. Their highly profitable "Family of Apps" with Facebook, Instagram, and their other apps, and "Reality Laps" with Oculus and all Metaverse related businesses. Investigating moats, I think that Meta has two moats. The first one is a brand moat, as consumers enlarge trust the brand, and especially Facebook, Instagram and WhatsApp are widely used around the world, which leads us directly to the second moat being the switching moat. The apps are such a big part of people's life, as it is hardly worth switching, if there should come some competitors at the same scale.
Their CEO is Mark Zuckerberg, which is also the founder of Meta. Besides being the CEO, Chairman and Founder of Meta, he is also the biggest shareholder. Mark Zuckerberg is in many ways a controversial figure and there are many opinions about him, one thing that cannot be disputed though is that he has a brilliant mind. He founded Facebook when he was just 19 years old and now 15 years later it is a multibillion business. I do not want to go through his whole tenure as a CEO but some of the highlights are that he has been named person of the year by Time Magazine, been responsible for the biggest tech IPO in history at the time (2012), he is committed to philanthropic causes, and he is not afraid to spend money on acquisitions (Instagram $1 billion, Oculus $2 billion, and WhatsApp $19 billion). He does have a high approval rating as a CEO, and as always, I like when a founder is a CEO, as they are usually more committed to growing their business than their wallet (not that Mark Zuckerberg needs to be concerned about that). If you look at the results of Meta, I believe that you can certainly determine that in Mark Zuckerberg, Facebook does have a great CEO.
We have determined that Meta not only has one but two moats. We really do like the management as well. Now let us Investigate the numbers to see if Meta does live up to our requirements for a strong moat. In case you want an explanation about what the numbers are, you can have a look at "MY STRATEGY" on the website.
The first number we will look into is the return on investment capital, also known as ROIC. We would like to see the ROIC be above 10 % in each year and increasing. Meta made their IPO in 2012, and while they delivered an acceptable ROIC first couple of years, it really took off since 2017. Meta has delivered a ROIC of more than 20 % in 4 out of the last 5 years, which is impressing. I'm very encouraged by the ROIC and feel very comfortable in investing in a company that manages to deliver such as ROIC.
The next numbers are the book value + dividend. In my old format this was known as the equity growth rate. It was the most important of the four growth rates I used to use in my analyses, which is why I will continue to use it moving forward. As you are used to see the numbers in percentage, I have decided to share both the numbers and the percentage growth year over year. I don't have the growth from 2011 to 2012 as 2012 was the year they made their IPO. From 2013 and all the way to 2020 they managed to grow their book value nicely year over year, which is impressing. Book value decreased slightly in 2021 compared to 2020 but it isn't something I worry about, as 2020 was an outlier for most companies due to the pandemic. 2021 was still very strong compared to 2019.
Finally, we investigate the free cash flow. In short, free cash flow is the cash a company generates after it has paid for operating expenses and capital expenditures. Meta is pretty much a textbook example of what you would like to see. They are delivering a strong free cash flow year over year. Furthermore, it has increased every year except for one. Once you look at these numbers, you get an idea why the title of this analysis is as it is. I'm very encouraged and happy to see numbers like these from a company I'm invested in. Free cash flow yield has also been above 3 % every year since 2016 except for 2020, which was during the pandemic.
Normally we do also look into debt and we want to see if a business has a reasonable debt that can be paid off within 3 years. We do so by dividing the total long-term debt by earnings. Looking at Meta's debt we can see that Meta has no debt. It is of course a very good thing and is yet another reason to be positive about investing in Meta.
Like with all other investments there are some risks when investing in Meta. One risk is regulations. There can be regulations regarding data collection and anti-trust / anti-monopoly regulations as well. In the latest earnings call, when asked about data collection management mentioned that "the regulatory environment is a real challenge for our industry", and while they are working on technologies where they use less data, they see this to be "a significantly challenging time" for the industry. Regarding anti-trust / anti-monopoly regulations, we still have to wait for the outcome of the 499 long report from the antitrust subcommittee of the House Judiciary Committee. Furthermore, Lina Kahn has been appointed Chairperson of the Federal Trade Commission, and she is known for being a stout opponent to big tech. Finally, we have seen a lot of regulations in China. And while these do not directly affect Meta, the President of Tencent has recently stated that he believes we will see internet regulations everywhere, it just started in China. Apple's App Tracking Transparency changes. The changes in the iOS means that developers are forced to ask the users permission before the can track their data. As a result, only 25 % of the users allowed Meta to track their data. As a result, Meta estimated to take a $10 billion hit on revenue in 2022 alone. And management couldn't give a clear answer how it will affect Meta moving forward. However, management said they are working on technology that will make them "navigate okay over time". It is possible that Google will apply similar measures on Android. Competition. TikTok is still growing and might be the best competitor that Meta has ever faced. Furthermore, we recently saw Snap guide for a slowdown in the digital advertisement industry. One reason is that the world is reopening after the pandemic, which means that offline advertisement is now taking a larger part of the advertisement budgets. Furthermore, we might see a economic slowdown around the world, and it might mean less marketing budget for companies, which could hurt Meta further.
It isn't all bad though, and there are plenty of potential for Meta moving forward. In the latest earnings call management mentioned they have three main investment priorities that they expect to drive growth. The first is Reels. Meta still hasn't been able to monetize Reels like they have with stories, but management is confident that they will be able to do so. The way management sees how to do it is by ramping up the format and show better content in the feed. Reels are growing at a fast pace, and management believes that they have the playbook for taking the kind of consumer engagement reels have and roll out ads into the experience. Management also mentioned that advertisers that have used reels have seen very promising results. The second is Ads. Ads is quite entangled with Reels as a future growth story. To grow their ads business, they will build the most advanced AI models and infrastructure in the business that should result in greater returns for advertisers. Management mentioned that previously, they could only show posts from friends and businesses that the users followed, as a result there were a few thousands posts a day they could show the users. Now with AI, there are millions of posts a day they could potentially show a user. They also mentioned that in the near-term ad's revenue will decrease due to lower monetization from Reels. However, the same happened in 2012 when they went from desktop feed to mobile feed, and in 2018 when they went from mobile feed to stories. And both times, they came out stronger. In short, Meta wants to grow their ads business through growing video monetization, evolving their date models to do more with less data, and use AI to support the ad infrastructure. The third is the Metaverse. The monetization of the Metaverse is not anywhere nearby. Management believes we must wait until the 2030's before we see any monetization from the Metaverse. It is still hard to predict what the Metaverse will amount to. However, according to Morgan Stanley they believe that the Metaverse has potential to be a $8,3 trillion addressable market. In other words, it could be huge, and Meta is the first mover. Management also sounded rather confident regarding the Metaverse in the latest earnings call as they said: "We expect to be meaningfully better at monetization than others in this space, and we think that should be a sustainable advantage to our platforms as they develop. "
All right, we have gone through the numbers, potential and risk regarding Meta, and now it is time for us to calculate a price for Meta. To calculate price, we will need numbers that I have explained in the "MY STRATEGY" section of the website. I do not want to go through the whole calculation here, but I use an EPS of 12 (which is a bit lower than the 13,99 in 2021). I use an Estimated future EPS growth rate of 10 (In average over the last 5 years, it has been above 11 %, so I'm conservative here), Estimated future PE 20 (in this case we multiply the predicted growth rate with two, as this is lower than the historical highest P/E) and we already have the minimum acceptable return rate on 15 %. Doing the calculations by using the formula I described in my strategy we come up with the sticker price (some call it fair value or intrinsic value) of $153,87 and we want to have a margin of safety on 50 %, so we will divide it by 2 meaning that we want to buy Meta at price of $76,94 (or lower obviously).
Our second way to calculate a buy price is the TEN CAP price, which is also explained at "MY STRATEGY". To do so, we need some numbers from their financial statements, keep in mind that all numbers are in millions. The Operating Cash Flow last year was 57.683. The Capital Expenditures was 18.567. I tried to look through their annual report to see, how much of the capital expenditures were used on maintenance. I couldn't find it though, so as a rule of thumb, you expect 70 % of the capital expenditures to be used on maintenance, meaning we will use 12.997 in our further calculations. The Tax Provision was 7.914. We have 2.815 outstanding shares. Hence, the calculation will be like this: (57.683 - 12.997 + 7.914) / 2.815 x 10 = $186,86 in TEN CAP price.
The last calculation is the PAYBACK TIME. I also described in "MY STRATEGY". With the Free Cash Flow Per Share at 11,64 and a growth rate of 10 %, if you want your purchase back in 8 years, the PAYBACK TIME price is $146,43.
Meta has more than one strong moat and a great management. All their numbers look great, and they are delivering a solid chunk of free cash flow year after year. They are currently facing some headwinds, especially with the privacy changes in the iOS. It is something they will be able to navigate around moving forward. Macroeconomics could also result in businesses using less money on advertisement, which is obviously bad for an advertisement business. There are also a lot of uncertainty regarding the Metaverse but if management is right in their predictions regarding the Metaverse, it could be huge for the company. However, right not there are no way to know how it will turn out. All being said, Meta has 2,9 billion people using one of their apps daily and at least 3,6 billion people using one on a monthly. It is huge, and Meta won't go away anytime soon. I already own Meta and my position will probably be bigger with time. I feel very comfortable in buying Meta below the TENCAP Price of $186,86.
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