Meta Platforms, Inc. (NASDAQ:META) investors who added exposure at its November capitulation lows have continued to outperform the S&P 500 (SPX) (SPY). Accordingly, despite the pessimism heaped at CEO Mark Zuckerberg's metaverse ambitions, META has recovered nearly 50% from our November article. Relative to the SPX's 6% uptick, investors must wonder what gave the bulls the ammunition to stage such a remarkable recovery?
It's pretty straightforward. Valuations and price action. Investors got so pessimistic in November that it sent META's NTM EBITDA multiple down to 5x, well below the two standard deviation zone under its 10Y average. What does that mean? It implies that META's valuation has been overstretched to the downside, setting up a high potential mean reversion opportunity to occur.
We also highlighted to members in our service, indicating that such an opportunity is possible:
When such a steep selloff occurs, creating a gap, selling should subside before a sharp mean reversion. You can see how it occurred in META's price action. So, this is the second gap-down event in 2022, creating another mean-reversion opportunity. META's price action is now down significantly below its 50-period moving average (blue line), and thus I believe that the selling should subside. Then a counter-trend rally could shape up, [bringing] it back to one of its moving averages before selling returns. - Meta update, Ultimate Growth Investing, 5 November 2022
As such, the mean-reversion has occurred with incredible potency, likely taking the bears in November by surprise.
Meta Platforms is still a profitable company, even though Reality Labs or RL (Meta's metaverse division) has eroded a significant level of operating income. As a reminder, RL garnered revenue of $1.43B in the first nine months of FY22 but reported an operating loss of $9.44B.
Meta indicated that it had seen an improvement in RL's operating performance as it scaled up, as it added in its filings:
These [increases in expenses] were partially offset by a decrease in RL cost of products sold and a $472 million reduction in our estimated losses on purchase commitments in the second quarter due to a price increase on Meta Quest 2. (Meta 10-Q)
But things could be about to change for the worse for Zuckerberg. Why?
Bloomberg and The Information reported back-to-back today on Apple's (AAPL) intent to release a "cheaper" mixed reality (MR) headset that combines AR and VR, taking on Meta's Quest 2, which reportedly has "limited AR capabilities."
Meta investors who think that Apple will let Zuckerberg define the epoch in mixed reality must be in for a rude surprise. Notwithstanding, Apple's investment and likely launch of its high-end mixed reality device this year has been known for a while. However, that device is intended to target the enterprise/commercial market given its price range, suggesting no imminent threat to Meta's Quest 2.
However, Apple is reportedly shelving its AR glasses development in favor of the lower-cost headset, as the technical barriers to a successful AR glass launch have proved overly complicated for now.
While the launch is not expected to happen in 2023, we believe that Apple could also fast-track its development if the technical barriers are lowered. With Apple looking to price its mixed reality headset in the range of its iPhone series, we believe Meta is set for a massive showdown to preserve its current leadership in the AR/VR device market.
It's important to note that the success of Meta's RL division is pivotal to the company's definition of "the next chapter of the Internet." As such, it has invested significantly, with its RL staffing said to be about 3,000 people. Mark Zuckerberg also allocated 50% of its RL budget to AR and 40% to VR, according to an internal meeting in November 2022.
Notably, it's more than the "1000-person-plus unit" in Apple's Technology Development Group, which Bloomberg highlighted that the vast majority of them are focused on developing its MR headsets. However, Meta's commitment stretches beyond just the headsets, encompassing "multiple virtual reality headsets, augmented reality glasses and associated software."
While it may seem that Meta has invested more aggressively in its attempt to define the MR ecosystem, it might not necessarily yield long-term success against Apple.
Note that Apple's MR team could rely on the company's successful consumer hardware and silicon engineering teams for expertise. In addition, it has continued to integrate its supply chain as it looks to reduce its reliance on third-party supplies such as Broadcom (AVGO), and Samsung (OTCPK:SSNLF), improving its ability to customize and save costs.
In contrast, Meta's experiment with driving its ecosystem and chips with Qualcomm (QCOM) suggests that the company may not have the engineering edge compared to Apple.
With AR & VR shipments projected to reach 48M by 2025 (nearly 50% CAGR over four years), Apple likely sees the opportunity as a "major moneymaker." It could also help pave the way for an eventual AR glass launch over the long term, technology permitting.
As such, we believe Meta's investment and leadership ambitions in the metaverse could be under significant threat, requiring investors to assess carefully whether its current valuation is fair to take on additional exposure.
At an NTM EBITDA multiple of 7.2x, it's still below ad leader Google's (GOOGL) (GOOG) 9.8x NTM EBITDA multiple. It's also below AAPL's 16.4x multiple.
Hence, META bulls could argue that there's more potential upside moving ahead, despite its battering in 2022. While Apple could be a credible threat, META's valuation seems "too cheap" to ignore.
META's November bottom clearly attracted dip buyers as it moved back above its COVID lows recently.
However, META remains mired in a medium-term downtrend, and its recovery momentum could also be hampered by its downtrend resistance zones.
As such, we think it's appropriate for investors to consider holding back adding more exposure, as they assess the company's response to Apple's MR developments in its upcoming earnings conference on February 1.
While seemingly cheap, META's long-term recovery depends much on its ability to build its metaverse ecosystem successfully. Unfortunately, Apple's MR plans could thwart that effectively, relegating META to be valued accordingly as a "cheap" stock and no longer a long-term growth opportunity.
Rating: Hold (Reiterated).
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Disclosure: I/we have a beneficial long position in the shares of META, GOOGL, QCOM either through stock ownership, options, or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.