Meta Stock Pops As $37 Billion AI Spend Makes It A Buy

When it comes to stocks, CEOs should follow a simple rule: beat and raise — for example, if a company’s most recent revenue growth and future guidance exceed Wall Street expectations, its stock price usually goes up.

On July 31, Meta CEO Mark Zuckerberg followed this rule when reporting the company’s second quarter performance. In response, Meta stock popped as much as 8% in the after-market, the Financial Times reported.

With Meta stock up 37% this year as of July 31, is it too late to invest in the company’s shares? Here are three reasons the company’s stock could keep rising:

• Excellent Q2 performance and prospects.
• A solid payoff from AI investments.
• Analysts are optimistic about the company’s prospects.

“We’re in the business of building the best consumer and advertising experiences,” Zuckerberg said on a July 31 call with investors. “To do that, we need access to the leading technology and not be constrained by what competitors allow us to do,” he added.

Excellent Q2 Performance And Prospects

AI helped Meta deliver better-than-expected sales for the second quarter. The company’s report demonstrated the payoff from its investments in AI — enabling Meta to “sell more targeted and personalized advertisements,” according to Bloomberg.

Here are the key numbers:

• Q2 2024 Revenue: $39.1 billion — up 22% from the prior year and $800 million more than the $38.3 billion expected, according to Bloomberg, which noted advertising accounted for 98% of Meta’s revenue.
• Q3 2024 Revenue Forecast: $39.8 billion in the middle of the range — $600 million above the consensus estimate of $39.2 billion for the September quarter, Bloomberg noted.
• 2024 Capital Expenditure Forecast: $38.5 billion in the middle of the range — 9% above Meta’s previous forecast, Bloomberg reported.

“There are all the jokes about how all the tech CEOs get on these earnings calls and just talk about AI the whole time,” he told investors July 31.

“It’s because it’s actually super exciting and it’s going to change all these different things over multiple time horizons.” Zuckerberg added. AI will “end up affecting almost every product that we have in some way,” he said.

Solid Payoff From AI Investments

Although cash-rich companies such as Microsoft and Meta are pouring money into generative AI, not all of them are getting a clear return on that investment. This week, Microsoft’s latest results revealed that return could be about 15 years away, according to a July 31 Forbes post.

Meta is a different story. In an investment climate shaped by the imperative to beat and raise each quarter, the whole idea of a return on investment is tweaked significantly, as I argued in my book Disciplined Growth Strategies.

How Should CEOs Measure Return On AI Investment?

Traditionally, return on investment can be measured in many ways. A basic one is by comparing the initial investment in a new project to the value in current dollars of the cash flows that investment generates in the future.

However, because of beat-and-raise, the more relevant measure of the return is the extent to which that investment enables a company to grow faster than investors expect.

To achieve that outcome, CEOs must resist the urge to invest solely in what worked in the past. Instead, leaders must bet on new growth curves. The few successful bets will generate very rapid revenue growth in the early years of a new technology. The payoff could accelerate growth even as the company’s core markets mature.

This seems to be how Zuckerberg is thinking. “I think that there’s a meaningful chance that a lot of the companies are over-building now, and that you’ll look back and you’re like, ‘oh, we maybe all spent some number of billions of dollars more than we had to,’ ” Zuckerberg told Bloomberg in a July interview.

“On the flip side, I actually think all the companies that are investing are making a rational decision, because the downside of being behind is that you’re out of position for like the most important technology for the next 10 to 15 years,” he added.

How Meta Used AI To Reach The Top Of The Value Pyramid

Meta achieved a payoff from generative AI — in the form of expectations-beating ad revenue growth — by giving customers more value than competitors did. To do that, the company has reached the pinnacle of the Value Pyramid — an idea developed in my new book, Brain Rush.

Generative AI — like every new technology — would be much better off with a killer app. An example of that is the iTunes store. In 2001, Apple launched the iPod — which did not enjoy significant demand until the iTunes store launched in April 2003, CNN noted.

A killer app for generative AI will be at the top of the value pyramid. As I wrote in a June 2024 Forbes post, this pyramid consists of three levels:

• Overcome creator’s block. At the base of the pyramid are the many ways people use AI chatbots to get started on an activity — such as writing an email or a report, creating a photo or video, or coding software. By helping overcome creator’s block, AI chatbots can increase people’s productivity. This is the easiest way for businesses to get value now. However, since other companies can do the same, the advantage from using AI to overcome creator’s block is fleeting.
• Boost customer service and sales productivity. The middle layer of the value pyramid can increase a company’s productivity. For example, in the temporary job placement industry, generative AI can reduce significantly the number of candidates a recruiter sends to a company before finding a match. AI chatbots can also help a company to resolve customer questions more rapidly. It is unclear whether companies will pay a high enough price for such AI applications to enable their suppliers to grow profitably.
• Create new growth curves. The top level of the pyramid is the most valuable one. AI technology suppliers aspire to create new growth curves by helping their customers grow faster. In general, if generative AI can deliver faster growth, that growth will drive up the stock price of companies deploying the AI-powered applications — thus making them more willing to pay a high price for the technology.

AI is helping Meta increase its market share in digital advertising. Specifically, AI has improved “the way advertisements find interested users, adding efficiency to its most lucrative business,” Bloomberg reported. This enables Meta’s customers to grow faster — a benefit that redounds to the Facebook parent’s top line growth.

Meta’s algorithms better determine when and where to show ads. The company’s new generative AI features enable “marketers with small budgets” to create promotions that consumers find more compelling, noted Bloomberg.

Meta’s investments in AI could result in entirely new growth curves. For example, Meta’s chatbot, Meta AI, “is on pace to become the most widely used AI assistant in the world by the end of the year,” Zuckerberg told investors. He sees businesses using Meta AI to handle customer service.

Moreover, demand for Meta’s smart glasses — built in partnership with EssilorLuxottica’s Ray-Ban — is “outpacing the company’s ability to build them,” Zuckerberg said.

Not all of these experiments will pay off. For example, less than 12 months ago, Meta inveiled an AI intiative to provide “artificially intelligent characters based on Jane Austen, Snoop Dogg, MrBeast, Charli D’Amelio and other famous people that could chat across its messaging apps,” the New York Times reported.

Meta recently cut this initiative after it “failed to gain traction,” according to the Times.

While a similar outcome could befall other experiments, if Meta AI and Meta smart glasses create enough value for customers, the resulting expectations-beating growth could boost Meta stock.

Analysts Optimistic About Meta’s Prospects

Many analysts are optimistic about Meta’s prospects. Based on 28 Wall Street analysts offering 12-month price targets, Meta Platforms’ shares could rise nearly 16% to reach the average target of $549.35, notes TipRanks.

Analysts have a favorable view of Meta’s high-spend, high revenue growth strategy:

• AI-infused advertising platform boosts Meta’s revenue and profit. “They rebuilt their ad tech stack using AI and they changed their user interface and generated a lot more user engagement because of AI,” Mark Mahaney, internet analyst at Evercore ISI, told CNBC in a July 31 interview. “It’s showing up in the revenue and the profits now,” he added.
• AI is enabling Meta to win market share in digital advertising. “Meta continues to be a share taker in the broader digital ad market, partly reflecting its more aggressive AI tactics to improve content” and ad tools, Angelo Zino, an analyst at CFRA Research, told CNBC. Meta’s growth rates are “nicely outpacing those of its peers,” he added.

Meta offers investors a clear short-term payoff from its spending on generative AI in its ad platform while acknowledging a potentially more time-consuming return for other investments.

For example, products such as chatbots could increase consumer engagement with Facebook, Instagram and so on while taking “years” for the “monetisation of any of those things by themselves,” the Financial Times noted.

Although he has made many mistakes, Zuckerberg is among the top 0.4% of founders who have taken their company public and still run it more than three years later. As I wrote in Brain Rush, such leaders are often unusually good at creating the future.

Investors may consider going along for that ride.