Meta Just Dropped a Metaverse Bomb on Investors. Here's What You Need to Know.

Meta Platforms' (NASDAQ: META) metaverse is going in reverse. The Facebook parent issued a stinker of an earnings report Wednesday, missing expectations on nearly every key metric and offering disappointing guidance.

Meta stock plunged on the third-quarter results, falling 20% in after-hours trading, and it's clear why. Overall, the results show a company whose once-dominant advertising business is fading, while it pursues what increasingly looks like a boondoggle in the metaverse. Revenue from Reality Labs, its metaverse-focused division, plunged in the quarter, and the company said losses in the segment would significantly widen next year.

A reality check for Meta

Revenue from Reality Labs fell 51% to $285 million, which was the company's lowest revenue from the metaverse business in at least eight quarters. Reality Labs also reported an operating loss of $3.7 billion in the quarter, its biggest quarterly loss ever in the segment. Through the first three quarters of the year, the division has lost $9.4 billion.

At this stage, Reality Labs' revenue is made up entirely of Quest headset sales, and management said sales of Quest 2 were down from the quarter a year ago.

The company just began shipping its high-end mixed-reality headset, Quest Pro, which is priced at $1,500, and it plans to roll out the Quest 3 next year, which is expected to sell for between $300 and $500.

If you give Meta the benefit of the doubt, you might assume that the revenue decline in Reality Labs came because potential buyers were waiting for newer Quest models to come out, but the company's early forecast for 2023 wasn't inspiring either. Management anticipates that Reality Labs' operating loss will grow significantly in 2023, and didn't offer any indication it expected a substantial increase in revenue.

It's hard to understate how colossal the metaverse division's losses are already, at an annual run rate of $15 billion after the third quarter. Only a few dozen U.S. businesses make that much in profit in a typical year, meaning almost no other company could afford to make a bet so expensive and risky.

The fact that Meta is willing to spend that much on an unproven concept might signal the company's confidence in the metaverse as the next major computing platform, as CEO Mark Zuckerberg has previously described it. However, that confidence could just as easily be misplaced, making Reality Labs a gargantuan folly that never becomes a viable business.

How to lose $500 billion in 10 months

Few companies, if any, have invested this much in a development-stage business before, and the bonfire in Reality Labs is one reason why Meta's stock is now down more than 60% this year, wiping off more than $500 billion from its market cap.

The other reason is the challenges in its advertising business, but Meta deserves a pass in that segment, as the two biggest headwinds there -- Apple's ad tracking transparency initiative and the macroeconomic slowdown -- are outside its control, and it has now lapped the worst of Apple's ad targeting restrictions.

The metaverse bet, on the other hand, Meta owns entirely, and the prospect of running an operating loss around $20 billion in Reality Labs next year is surely frightening to many of its investors.

Management said that after 2023 it would manage its investments in Reality Labs to grow overall operating income, but that growth will come off of a much smaller base than the company had last year.

Advertising will remain the company's profit engine for the foreseeable future, but the stock's future will be determined by what the company achieves in the metaverse. If Reality Labs doesn't live up to Zuckerberg's ambitions, Meta's best days are likely behind it.

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Randi Zuckerberg, a former director of market development and spokeswoman for Facebook and sister to Meta Platforms CEO Mark Zuckerberg, is a member of The Motley Fool's board of directors. Jeremy Bowman has positions in Meta Platforms, Inc. The Motley Fool has positions in and recommends Apple and Meta Platforms, Inc. The Motley Fool recommends the following options: long March 2023 $120 calls on Apple and short March 2023 $130 calls on Apple. The Motley Fool has a disclosure policy.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.


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