3P-Check Meta: Is Facebook too expensive?
We’re reviewing the most popular stocks at the moment to assess whether investor expectations are realistic. This time, we’re applying the 3P-Check to Meta (formerly Facebook). Friend and foe alike agree it’s an impressive company, but is the current price still justified?
For those reading this for the first time, here's a reminder of what the 3P Check entails. If you are already familiar with the 3P Check, you can skip the following section.
What is the 3P-Check?
One of the goals I set for myself with Valuing Dutchman is to be a voice of rationality in the stock market, advocating for calmness both during panic and euphoria.
The term 3P refers to "Possible, Plausible, and Probable" from Professor Aswath Damodaran's book "Narrative and Numbers," also known as the "Dean of Valuation." The aim of the book is to learn how to link numbers to stories and vice versa.
We will examine the valuation of a company in the market and ask ourselves:
Is it Possible? Does the story that the current market price tells even have the potential to occur? Can a company truly grow that strongly, increase its margins, and so on? You would be amazed at how many impossible stories exist.
Is it Plausible? Technically, it may be possible, but is it believable? Are the expectations realistic? Are there past examples that support these stories and expectations?
Is it Probable? Is it likely that the narratives associated with the current stock price will unfold as projected? The difference between this step and the previous one heavily relies on the analyst's beliefs. At this point, I often find myself in disagreement with others.
The goal is to pause and reflect on market prices, using historical data alone to determine in which of the three P's I believe this price falls. I also perform a quick calculation of what I would be willing to pay for the company in question.
Please note, this is not an in-depth analysis or a comprehensive valuation of the company.
Meta
After reviewing NVIDIA and ASML, I'm now looking at another major tech company: Meta. This follows a question on X (formerly Twitter) about whether I also think Meta is overpriced. I previously mentioned that the S&P 500 is overpriced, driven by a few large companies that, in my view, are overvalued—and Meta is one of them.
Everyone knows Meta, though many may still recognize it better under its former name, Facebook, which it held until 2021. However, Meta is now much more than just Facebook:
Facebook: The well-known social media platform for connecting users
Instagram: Social media platform for sharing photos and videos
Messenger: Messaging app linked to Facebook
WhatsApp: Widely used messaging app that, in my opinion, still has a lot of untapped commercial potential
Threads: A text-based social media platform similar to X (Twitter)
Meta Quest: Virtual reality headsets
Ray-Ban Stories: Smart glasses in collaboration with Luxottica
I’m probably overlooking several initiatives that are still in their early stages, but let’s be honest: for now, these matter little, as nearly 98% of revenue still comes from advertising, primarily on Facebook and Instagram.
When I look at Meta, I see, on one hand, a potential that I believe is still underutilized (such as with WhatsApp) and, on the other, significant spending on research and development that may ultimately yield nothing.
Although we often hear that newer generations are ignoring Facebook, growth remains remarkably strong:
Admittedly, much of this growth hasn’t necessarily improved the user experience. On Facebook, you can barely scroll through three posts without encountering an ad. Because of this, I use it less for its original purpose, though I still open it daily to check specific groups.
Meta also knows how to effectively convert this revenue into profit:
There’s no doubt that Meta has been one of the standout companies of the past decade. This becomes even clearer for me when I look at the table below:
What we also see, however, is that this fantastic growth is starting to slow down. Growth over the past ten years was more than double that of the last three years. This is, of course, perfectly logical and part of the normal course of business; a company of this size simply can’t continue growing at such a blistering pace.
The margins are impressive. In short, no one would deny that Meta has been an outstanding company over the past decade.
But that’s not the question here. The real issue is whether the current price paid for Meta is still justified.
Below, you’ll find the stock price over the past ten years.
What is the market expecting?
At the current stock price of €589, we can calculate the market's expected return based on historical growth rates, or determine the growth needed to meet a 12% return requirement using a reverse discounted cash flow calculation.
With a required return of 12% (the discount rate), Meta would need to grow its cash flow from the last fiscal year (2023) by over 23% per year for the next ten years. Based on the past decade, this seems achievable, with an average growth rate of 27.8% per year.
However, looking at the last five and three years, we see a clear slowdown in growth, with rates of 17.6% and 14%, respectively. In other words, for Meta to return to an annual growth rate of 23%, it would need to enter a new growth phase.
Instead of focusing only on the required growth, we can also calculate the expected return if we assume growth rates from the past five or three years.
Assume cash flow follows the growth of the past five years, with Meta growing at 17.6% per year for the next ten years. In this case, an investment in Meta would yield a return of 9.1%.
If the growth rate of the last three years proves more realistic (14%), the return would be about 7.7%. Should growth slow further, returns would also continue to decline.
How will the future unfold??
All of the above, of course, is based on Meta’s past figures. But what does the future hold?
Will Meta manage to tap into a new revenue stream? Has the maximum number of ads on their platforms been reached, or could they increase ad frequency—even showing ads with every post instead of every two?
Will any of their projects in development become a major breakthrough, or will competitors gradually chip away at Facebook and Instagram’s market share? Personally, I don’t expect this in the next few years, but over a decade, I can't say with certainty.
My personal belief is that Meta’s growth will continue to slow. I think they’ve reached the limit when it comes to ads. I also suspect that ad spending will fluctuate with the economy, which could even lead to a (temporary) decline in revenue.
These are broad considerations, though; only insiders truly know the details of Meta’s product pipeline and actual growth potential. I could be completely off, but I do wonder where other investors find the confidence that growth will outpace the last five years to justify Meta’s current valuation.
What would I want to pay?
As mentioned earlier, I have a background in a sector that experienced significant disruption. This gives me a certain bias: I always anticipate a decline in margins due to competition, better products, or other factors. I don’t invest in the promises of tomorrow but in the certainties of today.
The most important factor in my investments is peace of mind; I only have that when I feel comfortable with the price I paid.
For Meta, those certainties are the dominance of the Facebook and Instagram platforms. Additionally, I hope for a better revenue model for WhatsApp and success for Threads. These last two factors seem necessary to maintain the growth rate of the past three to five years.
Still, I don’t want to project more than five years ahead—even that feels long for a company like this. Five years ago, I couldn’t have predicted a global pandemic, a new war in Europe, or Trump becoming president again. (To be clear, I’m aware of the war in Israel, but it was less unexpected.) If I had foreseen these events, I wouldn’t have expected their impact on businesses to be relatively limited.
With this in mind, the maximum I’m willing to pay for Meta is $242. I realize many will find this ridiculously low, but that’s because I assume that after five years, growth will level off to match inflation. To clarify: my maximum price isn’t necessarily the value of the company but the price at which I’d feel comfortable aiming for at least a 12% return.
If we believed Meta could sustain its growth rate of the past five years for the next ten years (even though it’s already slowed over the last three), then a price of $383 would be reasonable to achieve a 12% return. However, Meta is currently trading 50% higher than that.
Are expectations realistic?
For Meta, we can say that the current stock price could be explained. The first "P"—Possible—can be answered affirmatively. If growth continues as it has over the past decade, it’s certainly possible.
However, whether Meta meets the bottom "P"—Probable—raises significant doubts for me. This is an essential criterion for me to invest in a company.
We’ve seen that growth needs to exceed the rate of the past five years. Furthermore, the changes they implemented to achieve that growth aren’t easily replicable. Future growth will need to come from new initiatives, which will have to make an immediate and substantial impact. To land in the Probable category, I believe the stock price would need to drop by at least 60%.
As for whether Meta is worth the current stock price, it falls into the Plausible segment. It’s possible, but not very likely. At the current price, I expect a return estimated at a maximum of 9%, but more likely around 3%-4%.
There are simply plenty of other companies with a higher chance of better returns. With Meta, the odds aren’t in your favor.