This Artificial Intelligence (AI) Stock Looks Dirt Cheap. Here’s Why.

The last couple of years have been brutal for social media giant Meta Platforms (META 0.53%). After spending billions on its metaverse ambitions, Meta lost sight of its core advertising business — and investors didn’t like that.

Specifically, famed venture capitalist Brad Gerstner of Altimeter Capital wrote an open letter to Meta CEO Mark Zuckerberg and the board of directors, urging the company to “get fit.” The rationale behind Gerstner’s stance stemmed from an upside-down operation at Meta that was unfolding in the public eye. The company’s cash cow of advertising was taking a hit, all while expenses focused on other areas such as virtual reality (VR) were mounting, causing overall profits to shrink.

To Zuckerberg’s credit, he listened to Gerstner and pivoted to a steadfast focus on accelerating advertising revenue and reducing expenses (mostly in the form of layoffs). 2023 has been a solid year for Meta, both operationally and for the stock — which has returned nearly 180% this year.

Nonetheless, there are some glaring reasons to think Meta stock is incredibly undervalued, making now an opportunity to scoop up shares at a bargain price.

Why 2024 could be huge for Meta

Meta is the parent company of social media platforms Facebook, Instagram, and WhatsApp. Facebook is the third-most visited website in the world while Instagram is close behind at No. 6. These two sites combine for over 25 billion visits per month, according to analytics research firm Semrush.

The obvious takeaway here is that Meta’s surface area on the Internet is enormous, making brands eager to place advertisements on the company’s platforms. While 2023 has been an impressive year for Meta, 2024 could be even better because it marks the beginning of a new election cycle.

According to data from AdImpact, political advertising could set a record next year as estimates suggest spending could eclipse $10 billion. Of this spend, AdImpact is forecasting roughly $1.2 billion to be allocated toward digital advertising formats. Although it’s too early to know if these figures are accurate, the basic theme is that Meta’s high traffic across its social media ecosystem will likely garner a premium from political advertising campaigns.

Given these tailwinds, investors might think that the markets are placing a premium on Meta stock. But a valuation analysis comparing Meta to its “Magnificent Seven” cohorts may suggest otherwise.

Looking underneath the hood

The chart below illustrates the forward price-to-earnings (P/E) ratio of Meta benchmarked against its megacap technology peers. At a multiple of just 23.4, Meta stock is the second-lowest-valued stock among the “Magnificent Seven” on a forward P/E basis, only narrowly beating its advertising rival Alphabet.

META PE Ratio (Forward) data by YCharts

Taking this a step further, Meta’s profitability profile, while robust, could actually be even better. The table below illustrates Meta’s operating income across its advertising and metaverse businesses, reported as Family of Apps and Reality Labs, respectively.

Data source: Meta Platforms Investor Relations.

Investors can see that the Family of Apps segment is consistently operating at a profit while Reality Labs is still burning cash. As such, Reality Labs eats into Meta’s overall operating income and net profit, and is showing no signs of slowing down.

Is Meta stock undervalued?

Another way of thinking about the financial picture above is that Meta’s profits could be much higher. As I’ve expressed about Meta stock before, the company’s valuation multiples specific to profits can be challenging to digest.

For example, the price-to-earnings and price-to-free-cash-flow multiples in the charts below could appear misleading given the impact Reality Labs has on the overall business. Nonetheless, considering that each ratio is trading below 10-year averages, it could signal that Meta stock is trading at some of its most attractive valuation levels ever.

META Price to Free Cash Flow data by YCharts

Owning Meta stock will require investors to accept the current state of Reality Labs. The company is investing aggressively into areas beyond advertising as it looks to transform the business. For now, the high profit margins derived from advertising are essentially funding non-core initiatives in the metaverse. As a result, the company’s total profits are cannibalized.

This is not entirely unreasonable, though, as artificial intelligence (AI) will have myriad applications in the metaverse. In a way, while owning Meta stock for the highly profitable advertising business warrants merit, a position in the company could represent a hedge to other AI plays you might own.

Meta’s current valuation multiples suggest that the stock does not deserve a premium commensurate with its competition. But given the high likelihood that the company will experience increased ad spend next year from both political campaigns and brands, coupled with the long-term secular themes of AI that can benefit both sides of Meta’s business, the stock looks dirt cheap right now. Long-term investors have a lucrative opportunity to start dollar-cost averaging into Meta stock at an absolute bargain.

Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool’s board of directors. John Mackey, former CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. 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. Adam Spatacco has positions in Alphabet, Amazon, Apple, Meta Platforms, Microsoft, Nvidia, and Tesla. The Motley Fool has positions in and recommends Alphabet, Amazon, Apple, Meta Platforms, Microsoft, Nvidia, and Tesla. The Motley Fool has a disclosure policy.