Meta: 2Q26 Business Update
The 5 Call Options
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2Q26 Business Update.
Meta reported 2Q26 and the stock sold off -9% the following day.
While they reported strong revenue growth of +27% (FXN), operating earnings were up only +9% after backing a legal charge of $2.4bn and severance of $1.2bn. With D&A increasing on their large capex build, earnings will continue to be pressured.
Below we can see that capex has continued to grow as a multiple of depreciation. Mathematically this creates a headwind for the business’s margins. (See this past update for a fuller discussion on depreciation). Depreciation reached $6.3b last quarter, +46% y/y.
Revenue growth was driven by ad impression increases of +14% and ad price increases of +12% y/y.
Above we can see that Europe was a bit softer with ad prices increasing just +10% versus the US at +20%. This divergence could partially be attributed to their “less personalized ads offering” in Europe.
3Q26 forward guidance of $61-64bn represents +19-25% growth. While this is still very strong growth at their scale, it is likely a larger potential deceleration than investors were expecting.
The other big news (which really shouldn’t have been news at all), was that Meta started talking about 2027 capex. It shouldn’t be surprising that after committing $130-145bn in capex for 2026 that 2027 would be another large capex year. While they didn’t provide exact figures, they noted their plans are geared towards “maximizing” 2026 and 2027 capacity. A similar, if not higher, amount of capex the following year is likely.
This brings us to a broader discussion of their compute strategy. Whereas in the past they have been clear that most of the capacity they are building out is for their own use, they recently started talking about how they are open to selling excess capacity. This has come alongside announcements of a new cloud business and Business Agent Platform.
The strategy it seems is to leverage the short-term constrained compute environment to push sales of their new AI products (most of which have yet to be released) in hopes of creating a stickier service that can withstand a more abundant compute environment. This is a significantly different risk than their past strategy of building compute just for their own existing Family of Apps products to drive better recommendations and ad targeting.
With LTM cash flows (after SBC is backed out) is around $105bn, which means they are committing basically at least 2-3 years of capex to this build out for their cloud and AI services. (Free cash flows went negative in 2Q treating SBC as a cash expense. FCF were about neutral not backing out SBC.) While a worst case scenario of them being stuck with excess capacity in an industry-wide compute supply glut could mean a poor ROI on this spend, it won’t risk the company. The upside could be a new cloud and AI business with a multi-decade runway and unique ability to acquire SMB customers through their advertising arm (more on this in a moment).
While Meta hasn’t had success in moving beyond their Family of Apps business, they currently have a ton of optionality if things start to go right for them. On a long enough time frame (say over the next decade) AR and VR seems inevitable in our opinion, and they already have the most popular consumer product on the market in this space.
That is not to say success will be assured, but they don’t need to win over everyone in order to build a real business here.
The other call option is that with the billions they spent on hiring top AI researchers and hundreds of billions spent on compute, they are able to actually build a leading edge frontier model. If that happens, their cloud business has another real unique selling point as they can couple the sale of the two together.
So, in summary, the core Family of Apps business is already benefiting greatly from AI and in our opinion will continue to improve recommendations and ad targeting for some time, which will help improve the product and their ability to monetize it. Their capex bet is somewhat protected against the fact that they could always resell the compute (even if it isn’t at as high of a premium as exists today). Then investors have call options in Reality Labs, Meta Compute, and the possibility they build a leading-edge frontier model.
In total that is 5 different call options the business has: 1) Meta Compute, 2) Reality Labs, 3) the Business Agenet Platform, 4) a Neocloud, and 5) creating frontier AI model. Of course, whether this is a good risk/ reward will ultimately come down to the price investors pay today and whether some level of success with these new initiatives is already priced in. To better understand what is priced in, we will turn to our Reverse DCF in the next section.
Just before we do though, it is worth surfacing a risk that didn’t get much airtime on the call yesterday…
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