Meta Shares Climb 50% in 2024, Trailing Only Nvidia in the Mag7 Race. What's Next?

The AI arms race between the Magnificent Seven companies is still ongoing in 2024. However, it appears that the gap between these tech giants is widening based on their stock performance.

Except for Nvidia, the other six big Tech have successively released their second-quarter financial reports. However, the latest reports reveal similar concerns for most companies. The slowing or below-expected growth in core business revenue, coupled with soaring AI capital expenditure, has become strikingly contrasting. Consequently, as concerns grow over the increasingly prominent issue of overvaluation, the market is clouded with anxiety regarding unclear AI investment returns and excessively long investment payback period. Investors worry that massive capital expenditure will accelerate the bursting of the AI bubble. Therefore, the primary focus of Mag7's performance has shifted to the monetization of artificial intelligence.

Companies that have already proven AI's contribution to their core business and exercised more cautious capital expenditure have been rewarded, while others have faced "punishment". Post-earnings stock price changes also confirm this trend, with Meta rising by 4.8% on the first trading day after the release of its Q2 report, while Amazon and Alphabet experienced declines of 8.8% and 5.0% respectively.

Specifically, Meta's revenue and profits in the second quarter exceeded expectations, with a year-on-year total revenue growth of over 20% for the fourth consecutive quarter. Its core advertising revenue increased by 21.7% year-on-year to $38.33 billion, surpassing the market's expected $37.57 billion. Additionally, the company's capital expenditure for the quarter was lower than expected, and the upper limit of the annual capital expenditure range was not raised. Meta also provided guidance for third-quarter revenue that exceeded market expectations. These results demonstrate that AI is effectively empowering the company's core business, particularly in digital advertising performance, while maintaining discipline in capital expenditure.

Mark Zuckerberg points out that the company's AI spending has driven improvements in ad targeting and content recommendations, emphasizing that the substantial AI expenditure is a short-term sacrifice for long-term gains. Gene Munster of Deepwater Asset Management praised Zuckerberg's performance in the latest earnings call, highlighting his convincing explanation of AI's short-term and long-term benefits and how they will play out.

In contrast, peers such as Microsoft, Google, and Amazon have not effectively demonstrated the profit-driving role of AI despite increased spending. In the second quarter of this year, Google's capital expenditure increased by over 90% year-on-year, while the core advertising business revenue growth was only 11%, half of Meta's growth. Microsoft's intelligent cloud business revenue growth of 19% in the second quarter was lower than the market's expected 20%, and Amazon's core e-commerce net sales were below market expectations, with a year-on-year growth of less than 5%. Management explicitly stated their intention to continue investing in AI during the earnings calls, expressing a fear of missing out on industry trends and AI opportunities, while pushing the risks of over-investment into the future.

The upcoming earnings results of Nvidia on August 28th are highly anticipated by the market. Nvidia faces the pressure of proving the sustainability of the AI market and the reasonableness of the valuations of large tech companies. Therefore, in addition to strong current performance, optimistic guidance, and detailed explanations of specific business details will also be crucial.

Some analysts have a positive outlook on Meta Platforms due to the company's strong Q2 performance, increasing cash flow, and investments in AI initiatives that drive engagement and improve the advertising experience.

Tigress Financial notes that Meta's increasing cash flow is enabling ongoing investments in AI initiatives, which are driving user engagement, better content, and a more effective advertising experience.

Loop Capital highlights that Meta was the fastest-growing major ad platform to report Q2 results, exceeding Amazon Ads for the second consecutive quarter. The analyst also expresses optimism about Meta's expanding opportunity set as it deploys more genAI applications across its massive base of users.

RBC Capital notes that Meta management has better unpacked the AI strategy, which investors have been wanting given rising ROIC scrutiny. RBC Capital also highlights that by continuing to accumulate differentiated compute capacity, Meta is creating "max long-term optionality" and is well-positioned to take advantage of the AI opportunity set.