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In case you missed it:
Meta (META) dropped 15% following its Q1 FY24 earnings report.
I’m here to remind you that META was up over 5x from its 2022 lows and may need to take a breather. The market has already rewarded management’s moves in the post-ATT1 world.
The Anti-Apple
It’s no secret that Meta and Apple have an ongoing beef, with opposing visions of the future of the Internet.
Apple is known for its closed iOS ecosystem, a reluctance to announce AI products until they are ready for prime time, and highly polished product announcements.
Zuck’s playbook is shaping to be the exact opposite:
🔓 Closed vs. open: Recent announcements around Horizon OS and Llama 3 make it a classic battle between closed systems like Apple's and open models like those that won in the PC era.
🧪 Testing and iterating: With Meta AI, Zuck is using his Reels playbook: small launch, refine, scale, and monetize later.
🤳 Casual announcements: Zuck has introduced critical company initiatives with an ‘off-the-cuff’ vibe like a content creator.
Let’s gather insights from Q1 and these recent announcements.
Today at a glance:
Meta Q1 FY24.
Horizon OS, Meta AI and the TikTok ban.
Key quotes from the earnings call.
What to watch looking forward.
1. Meta Q1 FY24
As a reminder, Meta has two business segments:
FoA: Family of Apps (Facebook, Instagram, Messenger, and WhatsApp).
RL: Reality Labs (virtual reality hardware and supporting software).
FoA Daily Active People grew +7% Y/Y to 3.24 billion.
Zuck called out healthy growth in the US, on WhatsApp specifically.
As expected, management stopped reporting Facebook standalone numbers.
Ad impressions grew +20% Y/Y (vs. +21% Y/Y in Q4).
Average price per ad grew +6% Y/Y (vs. +2% Y/Y in Q4).
Growth was strongest in Asia-Pacific and Rest of World.
The average revenue per person grew +18% Y/Y to $11.20.
Higher engagement met continued strong advertising demand. For context, Snap ARPU rose 10% Y/Y to $2.83 in the same quarter.
Note: Management changed its ARPP definition and recast prior periods.
Income statement:
Revenue grew +27% Y/Y to $36.5 billion ($0.2 billion beat).
FoA grew +27% Y/Y to $36.0 billion.
RL grew +30% Y/Y to $0.4 billion.
Gross margin was 82% (+3pp Y/Y, +1pp Q/Q).
Operating margin was 38% (+13pp Y/Y, -3pp Q/Q).
FoA’s operating profit was $17.7 billion (49% margin, +9pp Y/Y).
RL’s operating loss was $3.8 billion (improving from $4.6 billion in Q4).
EPS grew +114% Y/Y to $4.71 ($0.39 beat).
Cash flow:
Operating cash flow was $19.2 billion (53% margin, +4pp Y/Y).
Free cash flow was $12.5 billion (34% margin, +10pp Y/Y).
Balance sheet:
Cash, cash equivalent, and marketable securities: $71.5 billion.
Long-term debt: $18.4 billion.
Guidance:
Q2 FY24 revenue was $37.7 billion in the mid-range ($38.3 billion expected).
FY24 expenses $96-$99 billion (previously $94-$99 billion).
FY24 Capex $35-40 billion (previously $30-$37 billion).
So what to make of all this?
User net additions were consistent with Q4 metrics. Meta still found a way to add another 50 million users to its Family of Apps. However, it was a slight slowdown after four consecutive quarters of accelerating growth.
Revenue grew +27% Y/Y in constant currency. It was another acceleration from +23% Y/Y in Q4.
The usual suspects were behind ad revenue growth: The online commerce vertical was the largest contributor to year-over-year growth, followed by gaming and entertainment & media. Growth was strongest in Rest of World (40%) and Europe (33%).
Reality Labs revenue grew 30%, driven by Quest 3. The lower loss for this segment was primarily due to a favorable comp with restructuring costs last year.
Headcount grew 3% sequentially to 69,300.
The operating margin improved following the “year of efficiency.” Meta incurred $3.5 billion in restructuring charges in FY23 (primarily facilities consolidation and employee severance costs). However, it was slightly down sequentially.
Returning cash to shareholders: Stock buybacks were $15 billion in Q1, a huge increase compared to $9 billion in the prior year. Management still finds the stock attractive enough. They also paid $1.3 billion in dividends.
Free cash flow hit a Q1 record, another manifestation of the year of efficiency. While Meta loses nearly $16 billion annually on Reality Labs, the company remains a cash-printing machine ($48 billion in free cash flow in the past 12 months).
Q2 FY24 revenue guidance implies a deceleration. The mid-range of guidance would be a growth of 18% Y/Y, likely the main reason behind the negative stock price reaction. CFO Susan Li mentioned increasingly difficult comps given the recovery of China-based advertisers in 2023.
FY24 Capex and operating expenses were raised, primarily due to higher infrastructure investment to support the AI roadmap.
2. Recent business highlights.
🥽 Horizon OS
Meta announced an open model for its Horizon OS, which powers its virtual reality headsets. They are partnering with hardware manufacturers like Lenovo and XBOX to design headsets optimized for different use cases.
Why This Matters
🔍 Defining the market: Meta's true competition isn't other VR headsets but anything vying for consumer time and attention, including social media, streaming services, and gaming.
🧠 Lessons from AI: With its open-source AI model Llama, Meta learned that the company doesn't have to have the best models — but they need a lot of them. The content creation potential benefits Meta's platforms, even if the models aren't exclusively theirs.
Underlying Motivation
Zuck explained during the call:
“There will be demand for more designs than we'll be able to build. […] Opening our ecosystem and opening our operating system will help grow the ecosystem even faster.“
🤖 Echoes of Android: Like Google with Android, Meta aims to build a platform to avoid being at the mercy of Apple or Google's ecosystems. It's a defensive strategy to protect their advertising business. The shift to a new vision-based computing experience is an opportunity to do so.
Not Apple's Model: Apple's high-profit, closed model isn't ideal for Meta. They want to maximize reach like Android did. An open approach is a natural fit.
Horizon OS Strategy
🥽 Licensing Model: Partnerships with hardware companies aim to increase the platform’s reach and develop use-case-specific headsets, something Meta couldn't do alone.
🧑💻 Targeting Developers: Meta has a head start in the VR developer community compared to Apple. A more open app model could solidify this advantage.
🤖 Meta AI
Meta AI is an intelligent assistant capable of complex reasoning, following instructions, visualizing ideas, and solving nuanced problems. It’s now powered by Meta’s latest family of LLMs, Llama 3.
Llama 3 has two models: 8B and 70B, which have 8 billion and 70 billion parameters, respectively. An additional 400+B parameter model is currently in training.
By now, Meta has a clear playbook for new products:
Release an early version to a limited audience.
Gather feedback and start improving it.
Make it available to more people.
Scale and refine.
Monetize.
When you have over 3 billion people on your apps, your ability to test and iterate is limitless. Meta AI had an early release in the fall of 2023. Now, they are moving to the next phase, releasing the product in more countries across WhatsApp, Messenger, Instagram, and Facebook.
Zuck teased future monetization potential in the Q&A session:
“I do think that there will be an ability to have ads and paid content in Meta AI interactions over time as well as people being able to pay for whether it's bigger models or more compute or some of the premium features and things like that, but that's all very early in flushing out.”
The biggest opportunity, to be sure, is with business messaging and AI agents.
“What an agent is going to do is you give it an intent or a goal, then it goes off and probably actually performs many queries on its own in the background in order to help accomplish your goal, whether that goal is researching something online or eventually finding the right thing that you're looking to buy.”
Beyond simple customer support, Zuck sees tremendous opportunities in deeper interactions with models to achieve business goals such as retention and conversion.
📊 Market share
Meta's advertising revenue reached $36 billion in Q1, representing 78% of Google Search revenue (+8pp Y/Y). We would have to go back to Q2 FY21 to find the two giants this close. The gap may close even more later this year.
We’ll look at Amazon's advertising revenue in the coming weeks.
👨🏼⚖️ The TikTok bill
Divest or sell it: A bill to force the sale of TikTok (or an outright ban) has been signed into law this week. It stems from national security concerns about the Chinese-owned app's potential for data misuse and propaganda. The company has nine months to find a buyer.
Legal challenges ahead: TikTok will likely fight the law in court, citing First Amendment rights (free speech).
Not so fast: Even if forced to sell, finding a buyer is tricky:
🏷️ Price tag: Wedbush estimates TikTok US is worth $100 billion.
🔍 Scrutiny: The US government must approve any buyer.
🇨🇳 Politics: China could block the sale to retain control.
Who would buy it? Possible buyers are in rarified air. Microsoft, Oracle, Walmart, and Amazon are often mentioned. But it’s all speculative.
Messy divestment: The real value is not just in TikTok’s audience size but in its recommendation algorithm. Separating TikTok from its Chinese parent company, ByteDance, could prove complex due to its technology and global workforce.
Long-term outlook: A forced sale could significantly change the app’s appeal and value. A TikTok app without its algorithm could become less engaging, ultimately benefiting any company competing for our attention, including Meta.
3. Key quotes from the earnings call
Founder CEO Mark Zuckerberg
On AI across Meta products:
“We're building a number of different AI services, from Meta AI, our AI assistant that you can ask any question across our apps and glasses, to creator AIs that help creators engage their communities and that fans can interact with, to business AIs that we think every business eventually on our platform will use to help customers buy things and get customer support, to internal coding and development AIs, to hardware like glasses for people to interact with AIs, and a lot more.”
He also shared some interesting nuggets:
Roughly 30% of Facebook posts are AI-recommended.
Over 50% of Instagram content is AI-recommended.
On AI investments:
“We have the talent, data, and ability to scale infrastructure to build the world’s leading AI models and services. And this leads me to believe that we should invest significantly more over the coming years to build even more advanced models and the largest scale AI services in the world. As we're scaling capex and operating expenses for AI.”
He added that revenue will lag AI investments, reminding investors to be patient. The scaling phase will precede the monetizing phase. Meta’s track record of monetizing new products, most recently with Reels, is the proof in the pudding. Meta is well-positioned to develop revenue-bearing AI through increased engagement on its apps.
On the FoA vs. RL reporting:
“An increasing amount of our Reality Labs work is going towards serving our AI efforts. We currently report on our financials as if Family of Apps and Reality Labs were two completely separate businesses, but strategically I think of them as fundamentally the same business with the vision of Reality Labs to build the next generation of computing platforms in large part so that way we can build the best apps and experiences on top of them. Over time, we'll need to find better ways to articulate the value that’s generated here across both segments so it doesn't just seem like our hardware costs increase as our glasses ecosystem scales but all the value flows to a different segment.”
Looking at Meta’s operating margin as a whole is likely a better way to gauge the effectiveness of its strategy (instead of narrowly focusing on the RL losses).
On AI agents:
“We have been testing the ability for businesses to set up AIs for business messaging that represent them in chats with customers starting by supporting shopping use cases such as responding to people asking for more information on a product or its availability.”
This initiative is still very early, but it could be a significant business on its own.
On Threads:
“There are now more than 150M monthly actives, and it continues to generally be on the trajectory I hoped to see.”
That’s up from 130 million last quarter. Although using Monthly Active Users (instead of Daily) can inflate engagement perceptions, the figure is impressive for an app that’s only 10 months old. Contrary to most nay-sayers predictions, the app is thriving beyond the initial launch excitement.
CFO Susan Li:
On video content:
“Video also continues to grow across our platform, and it now represents more than 60% of time on both Facebook and Instagram. Reels remains the primary driver of that growth, and we’re progressing on our work to bring together Reels, longer-form video and Live video into one experience on Facebook.”
60% is another significant uptick in video content, previously “more than half.”
On ads and engagement:
“We are getting better at adjusting the placement and number of ads in real time, based on our perception of a user’s interest in ad content and to minimize disruption from ads, as well as innovating on new and creative ad formats. We expect to continue that work going forward, while surfaces with relatively lower levels of monetization, like video and messaging, will serve as additional growth opportunities.”
In addition, new ad models are delivering better performance for advertisers, like Meta Lattice, a new ads ranking architecture that can run larger models that generalize learnings across surfaces.
4. What to watch looking forward
Here is the Q1 update on the things I’m watching closely:
👨👩👧👦 User growth: The Family of Apps added roughly 50 million daily users. How long can this momentum last?
🧵 Threads: 150 million monthly active users 10 months after launch put the app on track to be a massive platform over time. But don’t hold your breath for monetization in FY24.
🔓 Lllama 3: The latest open-source LLM sets a new standard. The even larger 400B parameter model in the works could be a game changer and a major leap forward in generative AI.
🤖 Meta AI: Announcements around new use cases will be critical to watch, particularly regarding business messaging.
🛍️ Advantage+ and Shop ads: Meta's recent updates offer AI-powered tools that automate creative content, personalize ads, and showcase product details in more engaging ways. Shop ads reached a $2 billion run rate in FY23.
⚖️ Regulatory scrutiny: Beyond the TikTok drama, Meta has a jury trial in Texas about its use of facial recognition. Other investigations are always looming, potentially challenging the status quo.
That’s it for today!
Stay healthy and invest on!
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Disclosure: I am long AAPL, AMZN, GOOG, and META in App Economy Portfolio. I share my ratings (BUY, SELL, or HOLD) with App Economy Portfolio members.
Author's Note (Bertrand here 👋🏼): The views and opinions expressed in this newsletter are solely my own and should not be considered financial advice or any other organization's views.
Apple’s App Tracking Transparency (ATT) was launched in 2021.
Thanks for this fascinating breakdown. It’s hard to believe that this behemoth was started in a college dorm room not too long ago.