Meta's new growth story: buying back its own shares

Meta Platforms reported bland fourth-quarter revenue and a lacklustre outlook, and its shares rose 23 per cent in a day, adding roughly $90 billion of market value in a few hours. Neither a breakthrough in artificial intelligence nor a rebound in advertising explained the jump. Mark Zuckerberg did, by declaring 2023 the "Year of Efficiency" and adding $40 billion to the company's share buyback authorisation. By cutting costs and shrinking its own share count, Meta won a sharp re-rating, and the rest of the tech industry has taken note.

A costly bet on the metaverse

The change in Meta's story is an overdue surrender to its shareholders. In late 2021 and 2022 management poured tens of billions into Reality Labs, spending as though cash flow would never run short.

The bet was made at the worst possible moment. The company renamed itself in October 2021 to signal its commitment to virtual worlds, just as its core business came under pressure. Apple's App Tracking Transparency rules, introduced that year, made it harder to target advertisements on iPhones, and Meta itself warned they would cost it around $10 billion of revenue in 2022. TikTok was drawing younger users' attention away from Facebook and Instagram, and advertisers were trimming budgets as recession fears grew. Reality Labs, meanwhile, lost more than $13 billion last year while producing headsets few people bought.

Shareholders lose patience

That approach fell apart when tech valuations did. Meta has now promised to cut capital expenditure by $4 billion and has reduced headcount, turning a speculative growth company into one that squeezes out cash.

The pressure had been building for months. In October, Altimeter Capital, a long-standing shareholder, published an open letter urging the company to cut staff and cap its metaverse spending. In November Meta announced it would lay off about 11,000 employees, roughly 13 per cent of its workforce, the first large cuts in its history. Mr Zuckerberg's control of the voting shares means no investor can force his hand, which made the eventual concession all the more striking.

Fewer shares, higher earnings

A $40 billion repurchase programme, set against shares that had fallen 70 per cent, lets management retire stock at unusually low multiples. That flatters earnings per share and offsets the dilution from executive share awards.

The arithmetic is simple. Earnings per share can rise without any growth in profit if the number of shares falls, and buying back stock at a depressed price retires more shares per dollar spent. Stock-based pay has long been a large expense at Meta, as at most big technology firms, and part of every buyback merely mops up the new shares issued to staff. The rest shrinks the share count and raises each remaining holder's claim on future profits.

There is also a tax wrinkle. Since the start of this year, American companies have paid a 1 per cent excise tax on the value of shares they repurchase, a provision of last year's Inflation Reduction Act. At that rate the tax is an irritant rather than a deterrent, but it is a sign that buybacks have become a political target, and a higher rate would change the calculation for every company tempted to follow Meta.

Rivals will copy it

Meta's turn probably ends the romantic phase for big tech. Investors now reward cost cuts and cash handed back to them, and have lost patience with moonshots paid for by loose spending.

The cost-cutting part is already under way. In January Microsoft said it would cut 10,000 jobs, Amazon raised its planned lay-offs to more than 18,000 and Alphabet announced 12,000. Each of these companies has enormous cash reserves and strong free cash flow, which gives them room to follow the second half of Meta's formula as well. A bigger buyback is the obvious way to show investors that the savings will reach them rather than being spent on the next big project.

Higher interest rates explain why the market's taste has changed. When money was almost free, a dollar of profit promised a decade from now was worth nearly as much as a dollar today, and investors tolerated vast spending on distant projects. With Treasury yields far above their pandemic lows, distant profits are discounted more heavily, and cash returned now looks more valuable than a promise of platform dominance in the 2030s.

The case against buybacks

Buybacks have a mixed record. IBM spent heavily repurchasing its own shares through the 2000s and 2010s while its revenue shrank for years, and the company's shares went nowhere; financial engineering flattered earnings per share while the business lost ground. The risk for Meta is similar. If TikTok keeps taking attention and advertising stays weak, cheap shares may turn out to have been cheap for a reason, and money spent retiring them would have been better spent defending the core product.

The strongest version of this argument is that platforms depend on staying ahead technologically, and a company that stops taking risks may find itself overtaken. The retort is that Meta is not abandoning investment. Even after the $4 billion cut, its capital spending remains among the largest in corporate America, much of it going into data centres and the artificial intelligence that ranks posts and targets advertisements.

The winners from the new regime are easy to name: shareholders, who get cash back and a leaner cost base, and advertisers, who benefit if Meta concentrates on making its ad tools work better after Apple's changes. The losers are the employees let go, the suppliers and developers that depended on Reality Labs' spending, and the ambition of building a new computing platform, which Mr Zuckerberg says he has not abandoned but must now fund under far tighter scrutiny.

What the market is pricing

Other cash-rich software and platform companies will probably feel pressure to follow, trading grand visions for financial engineering. With discount rates higher, Wall Street will pay more for cost cuts and buybacks than for a distant digital future. Other large platform companies are likely to announce similar cuts and repurchases within the next few quarters. Expect the next round of big-tech earnings calls to feature efficiency targets and capital-return plans in the opening remarks, and expect executives who talk up long-dated moonshots without them to be punished by their share prices.