For eight years, Facebook (FB) could do no wrong...

For investors looking at the company in 2013 using generally accepted accounting principles ("GAAP"), Facebook was a puzzle. To most, it appeared to be an average company trading at absurd valuations.

Its as-reported return on assets ("ROA") was a pedestrian 11% – slightly below the average of 12% for all public companies in the U.S.

And yet, the stock was trading at a 40 times price-to-earnings (P/E) ratio. That's two times corporate average valuations.

If all you had to go on were those two data points, it might have seemed like the social media giant was riding a wave of enthusiasm that was going to reverse at some point. But at Altimetry, we knew better. Two key pieces of proprietary research told a story hidden from most investors.

First, using Uniform Accounting, we could see that Facebook's real (Uniform) ROA was actually more than three times higher, at 36%... and it was growing. At the time, our model showed that Facebook's Uniform ROA had grown every year since its initial public offering.

We also knew the company's management was genuinely enthusiastic about the profitability of its advertising engine.

As regular readers know, we subject the management earnings call to what's essentially a lie-detector test. Our Earnings Call Forensics tool analyzes management's comments and finds points where the team has high confidence – or is, perhaps, shading the truth.

In Facebook's case, management's remarks on its advertising business generated clear "confident" markers.

That was good enough for us...

We recommended Facebook to our institutional clients in May 2013, and the stock crushed the market. Through October 2021, it rose 1,380%.

Today, shares of the company – now renamed Meta Platforms (META) – are in a different place.

Meta is still an industry behemoth with a $250 billion market cap. But now, CEO Mark Zuckerberg is putting the full weight of the company behind his push to make Meta the leading company of the virtual-reality-driven "metaverse" – the next iteration of the Internet.

The irony is... Zuckerberg may be right about the significance of the metaverse. But we think his efforts will ensure that Meta is NOT the ultimate winner in this innovative sector.

Meta thinks it governs the metaverse...

Last October, we recommended that all our clients sell the stock... and that decision was just as important as our 2013 buy call.

Meta is down more than 70% in the past year. The stock is in freefall, and it's bringing pundits close to tears.

You may have heard about CNBC's Mad Money host Jim Cramer almost crying on national TV a few weeks ago. It was all because he recommended Meta as a buy this year.

"I made a mistake here. I was wrong," he said. "I trusted this management team."

Cramer roasted Zuckerberg for mismanaging Facebook's profitability. He's upset because Meta's newest spending spree is out of control...

Zuckerberg is pouring tens of billions of dollars into Reality Labs (Meta's business segment that deals with virtual reality, or VR, and augmented reality) to push the metaverse forward.

The company has 21% of its employees working on the project, a 4% increase from 2021. The annualized investment is also up to $15 billion now. That's $5 billion more than expected by the company earlier this year.

Everyone is focused on how much money Zuckerberg is lighting on fire. But they might be missing the favor he is doing for the industry at the same time.

There's a reason why governments – notably the U.S. government – generally fund "pure" research. Early on in a technology's life cycle, when it's not clear how it could be monetized, the industry often has zero interest in investing in the technology.

The payoff is too uncertain. High risk does not always lead to high rewards in these cases.

The U.S. government has often spurred this investment cycle. It funds early-stage projects in the name of "the greater good." Often, investment in military technology leads to consumer applications. That's how we ended up with both the Internet and global positioning systems.

But when the government isn't investing, no pure research and development spills into the consumer market. No company wants to take on that investment risk, especially in a potentially unprofitable technology.

Meta might be the sacrificial lamb of the VR industry...

The company is risking its profitable social media apps for the sake of the metaverse.

These investments may or may not pay off for Meta... but they will almost certainly pay off for the industry as a whole. Meta's investments today will kickstart the innovation needed for the technology to go mainstream.

This absolutely does not mean that Meta is going to be the winner of the industry. It's taking the loss as the first mover. But hopefully, others will follow in the years to come to accelerate innovation.

VR and the metaverse have never been more relevant... or this close to potential profitability. Now that Meta has spurred billions of dollars of investment, someone is bound to strike gold generating useful consumer products and services.

We wouldn't buy Meta right now, while Zuckerberg is determined to sacrifice mountains of cash on the altar of hubris. But his investment in VR and metaverse concepts increases the odds that the industry will succeed.

If you're holding investments in this space, all the bad news out of Meta should make you more bullish on your investments, not less. The likelihood that they're going to pay off (and do so in less than 10 years) is a lot higher thanks to Meta.


Rob Spivey
November 8, 2022