• 3Q22 revenue in line with expectations, earnings miss by 12%. 9M22 revenue/PATMI at 68%/60% of our FY22e forecasts.
• Earnings hurt by 19% rise in expenses; Reality Labs segment continuing losses; guided to another quarter of negative revenue growth.
• We cut our FY22e revenue/PATMI forecast by 7%/23% to account for slowing revenue growth, higher-than-expected total expenses and increasing FX headwinds. We also increased our total expenses forecast for FY23e. We downgrade to an ACCUMULATE recommendation with a lowered DCF target price of US$113.00 (prev. US$221.00).

The Positive

+ Reels engagement seeing continued momentum. Meta continues to gain time spent share on competitors like TikTok, with Reels seeing more than 140bn daily plays – 50% increase from 6M ago, and driving incremental time spent on Meta’s family of apps. Reels growth presents near term headwinds since it does not monetize as quickly as feed or stories, but is expected to even out over the next couple of years as monetization improves. LTM revenue run rate for Reels was around US$3bn in 3Q22, 3x more than 2Q22.

The Negative

– Earnings cut in half due to jump in expenses. Meta announced EPS of US$1.64 for 3Q22, almost 50% lower than a year before. The main reasons were YoY revenue contraction of about 5%, and a 19% YoY increase in total expenses. R&D saw a 45% YoY increase as Meta continued hiring technical roles to support its Family of Apps segment. However, the company did mention that they expect overall headcount to remain roughly the same until the end of FY23e, which should help to ease YoY growth in total expenses.

– Reality Labs segment running deeper into the red. Revenue from Reality Labs was down 49% YoY as a result of slowing Quest 2 sales – VR headset. Expenses remained high, with the operating loss for the segment at US$3.7bn for 3Q22, up 40% YoY. Operating loss YTD was US$9.4bn, an increase of 37% YoY. Continued losses from Reality Labs is concerning given the uncertainty surrounding its timeline to profitability, and a growth stagnation in Meta’s core digital advertising revenue.

– Guidance for another quarter of negative revenue growth. Meta guided to 4Q22 revenue range of US$30bn-32.5bn, representing a 7% YoY contraction taking the midpoint, with an approximate FX headwind of 7%. The sluggish guidance reflects continued weakening trends in digital advertising, and an uncertain macroeconomic environment.