I Was Wrong About Meta Earnings, But the Stock Is Still a Buy

Meta Platforms (NASDAQ: META) tumbled on its second-quarter earnings report Wednesday.

The stock was down more than 10% at one point after hours, as it badly missed bottom-line estimates, with expenses jumping in part due to one-time costs for legal proceedings and severance payments.

Earnings per share fell from $7.14 to $6.18, well below the consensus at $7.22.

I predicted Meta Platforms would spike on the report, but that didn't happen. The company delivered strong results on the top line, with revenue up 28% to $60.8 billion, beating estimates at $60.3 billion, as the core advertising business drove 14% growth in ad impressions and a 12% increase in average price per ad.

However, investors were understandably more focused on falling profits and its capital expenditures, which are now expected to be $130 billion-$145 billion, as free cash flow in the quarter was less than $1 billion, including payments on finance leases. Management also did little to assuage concerns about overspending on capex, saying that it saw a "massive" opportunity in AI.

Management also seemed less enthusiastic about its new cloud business than investors had hoped, as the company still prefers to use its AI chips internally, where it says it gets a higher return on investment.

Why the stock could bounce back

Meta's sell-off is reminiscent of Alphabet's last week, when an otherwise solid report was marred by an increase in capex to around $200 billion, leading to its first quarter of negative free cash flow as a publicly traded company.

However, this isn't a typical earnings miss. This is a dominant company making a choice to spend aggressively to be a leader in the next major technology, AI. Paying for the infrastructure to do so is expensive, but Meta has a fast-growing, high-margin ad business to support it, and that business looks as strong as ever.

If the after-hours pullback holds, Meta stock will be trading at a price-to-earnings ratio of just 21, and adjusting for one-time tax penalties, it trades at a P/E of just 18. That's an unbelievable bargain for a company expected to continue growing revenue by more than 20%.

At this point, it seems that investors are betting that Meta's AI investments won't deliver any returns, but that's a low bar for the company to overcome, and it creates substantial upside potential if they do pay off. If needed, the company can scale back on its AI investments, and investors can reap the benefits of the blockbuster ad business at a dirt cheap price.

Jeremy Bowman has positions in Meta Platforms. The Motley Fool has positions in and recommends Alphabet and Meta Platforms. The Motley Fool has a disclosure policy.