Meta Platforms Q2: An Important Quarter (NASDAQ:META)

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Justin Sullivan

Meta Platforms (NASDAQ:META) is going to reveal its second-quarter earnings sheet on July 27 and while the company is not expected to do exceptionally well due to headwinds in the digital advertising business, Meta Platforms could beat low EPS predictions nonetheless. Despite cost pressures and daily active user challenges, Meta Platforms’ earnings card could show up to $9B in free cash flow for Q2’22 and improved costs. Shares are very competitively valued and the bar to beat EPS predictions is low!

Expectations for Meta’s Q2: Low EPS bar, trend in daily active users and free cash flow

Meta Platforms is expected to report normalized EPS of $2.58 for its second-quarter next week, implying a year over year decline of 29% due to advertising challenges and growing competition from TikTok, mainly. I believe EPS predictions are so low that Meta Platforms has a reasonable chance to outperform next week.

Meta Platforms Q2'22 Estimates

Seeking Alpha

Social media platforms rise and fall with user trends and possibly the best example for this is Meta Platforms. The social media company saw a continual increase in its daily active user/DAU growth as a public company until Q4’21 which is when Meta Platforms revealed that its DAUs fell 1M quarter over quarter to 1.929B. It was the first decline ever in daily active users for the company, resulting in the market wiping off more than $200B in Meta’s market value. To this day, Meta Platforms’ shares have not recovered from the sell-off and the company’s stock chart reveals a giant gap reaching all the way up to $323.

However, in Q1’22, Meta Platforms’ DAUs increased 31M to 1.960B and I believe the platform could report the addition of 2-3M new daily active users for Q2’22. Despite the dip in DAUs in Q4’21, the long term trend in Meta’s user acquisition looks healthy.

Facebook DAU Trend

Statista

Turning to free cash flow and margins.

The second-quarter will likely have seen continual headwinds in Meta’s digital advertising business due last year’s iOS update from Apple which limits the ability of advertisers to track consumers’ online behavior. Meta Platforms is also seeing a challenge from Chinese-owned TikTok app which has become incredibly popular with younger users and which is drawing users away from Facebook.

Despite those challenges, one should not forget that Meta Platforms is an enormously profitable enterprise. The firm has guided for Q2’22 revenues of $28-30B which implies a potential increase of up to $2B over Q1’22 revenues. Since Meta Platforms consistently achieved free cash flow margins of around 30% or higher, I expect the company to report Q2’22 FCF in the range of $8.4-9.0B.

in mil $

FQ1-22

FQ4-21

FQ3-21

FQ2-21

FQ1-21

Revenues

$27,908

$33,671

$29,010

$29,077

$26,171

Operating Cash Flow

$14,076

$18,104

$14,091

$13,246

$12,242

Purchases of Property/Equipment

($5,315)

($5,370)

($4,313)

($4,612)

($4,272)

Payments on Finance Leases

($233)

($172)

($231)

($123)

($151)

Free Cash Flow

$8,528

$12,562

$9,547

$8,511

$7,819

Free Cash Flow Margin

30.6%

37.3%

32.9%

29.3%

29.9%

(Source: Author)

Despite challenges from increasing competition and changes to advertiser policies, the social media company is set to have a great year regarding free cash flow. I estimate that Meta Platforms could earn $38-40B in free cash flow in FY 2022 — a decrease of $2B compared to my prior estimate because I believe advertisers have shifted more ad dollars to other platforms in the second-quarter, especially TikTok. Based off of revised FCF expectations, shares of Meta have a P-FCF ratio of 12.4-13.1 X.

Meta could outperform on costs

Meta Platforms announced a cost-cutting push in May as the company seeks to adjust its operating costs due to slowing revenue growth going forward. The social media company has guided for total expenses of $87-92B for Q2’22. Changes in the digital advertising landscape have added to persistent cost pressures in Meta Platforms’ business, so if the company executed well against its cost cutting targets in Q2’22, which I expect, the company may lower its total expense forecast for FY 2022 a second time next week.

The cheapest FAANG stock

Based off of earnings, Meta Platforms is the cheapest FAANG stock that investors can buy right now. The cheap P-E ratio of 13.7 X is the result of Meta’s large drop in February when it revealed its first-ever drop in daily active users. Based off of earnings and considering the large size of the company’s free cash flow, Meta Platforms’ is the safest FAANG stock, besides Google (GOOG), that investors can buy right now.

META vs peers PE ratio
Data by YCharts

Risks with Meta Platforms

The biggest risk for Meta Platform is user churn. If TikTok succeeded in leading more users away from Facebook, the social media company may face a decline in daily active users and a more serious decline in platform ad spend which I believe are the two most important key metrics for Meta Platforms, even more important than free cash flow margins. A decline in DAUs next week would be a strong warning for the social media company that it has to do more to stay relevant with younger people and it could drive shares of Meta significantly lower. While the social media platform has rolled out competing products like Reels to compete with TikTok, the advertising wars between platforms can be expected to continue to heat up.

Final thoughts

Meta Platforms’ shares represent deep value before earnings, whether the social media company will exceed expectations next week or not. I believe we are going to see a 2-3M uptick in daily active users as well as robust free cash flow of up to $9B. Shares of Meta Platforms have an extremely attractive risk profile, based off of free cash and earnings, and if Meta surprises next week with better cost performance and DAUs, shares could continue their recovery trend and revalue higher!

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