Opinion: Facebook and Google grew into tech titans by ignoring Wall Street. Now it could lead to their downfall

Alphabet Inc. and Meta Platforms Inc. became two of the most valuable companies in the world by largely ignoring Wall Street and its concerns about their spending and big-money acquisitions.

Now, in the thick of a slowdown in ad spending and with a potential recession looming, Wall Street is sending obvious signals that the parent companies of Google and Facebook need to tighten their belts. And it is time for them to listen.

Meta
META,
-5.59%

followed in Alphabet’s
GOOG,
-9.63%

GOOGL,
-9.14%

high-spending footsteps Wednesday, doubling down on plans to spend on Mark Zuckerberg’s unproven “metaverse,” as well as other efforts that Facebook’s users don’t really want and are unlikely to turn around the flagging ad business. In case you missed it, Google executives hired nearly 13,000 workers in the third quarter — roughly twice the entire workforce of Snap Inc.
SNAP,
-0.21%

before that digital-ad-reliant company laid off 20% of its employees this year — and said they would try to only hire half that many in the fourth quarter.

Full earnings coverage: Meta’s earnings cut in half, and its stock is plunging

That did not sit well with Wall Street, especially coming on the heels of a scathing open letter to Zuckerberg from Altimeter Capital founder Brad Gerstner, whose firm owned 2.5 million shares of Meta at the end of the second quarter.

“It is a poorly kept secret in Silicon Valley that companies ranging from Google to Meta to Twitter
TWTR,
+1.08%

to Uber
UBER,
-0.56%

could achieve similar levels of revenue with far fewer people,” Gerstner wrote in a letter that was posted Monday on Medium.

To be sure, executives should ignore the short-term thinking of many Wall Street investors at times — Zuckerberg would not have bought Instagram for $1 billion just as Facebook was going public if he listened to his investors, and Google would not have been able to build Android into the most popular mobile operating system in the world if McKinsey had designed its business model. But there are limits, especially for mature companies when economic conditions sour. And while these tech giants may not need to cut jobs, they certainly should consider hiring freezes and stop pouring billions into unproven technologies that no one wants.

Wall Street doesn’t have to look far for a living example of a tech company that ignored it for years, but realized when it needed to cut back. Amazon.com Inc.
AMZN,
-4.10%

also ignored calls to rein in spending religiously over the years as it built the world’s biggest e-commerce site and revolutionized IT with cloud computing, but has been chopping costs most of this year after executives came to the realization that it had spent too much for the current economic climate.

“It’s surprising to us that Google continued to hire and invest aggressively throughout Q3, knowing that macro trends were deteriorating,” Mark Mahaney, an analyst with Evercore ISI, wrote in a note Wednesday. “Instead, perhaps GOOGL should have frozen hiring and cut back expansion plans in [the first half of 2022] as Amazon did.”

More from Therese: Google was supposed to be Wall Street’s safe haven, but now it’s a dart board

Meta tried to appease investors Wednesday by stating its head count will remain “roughly flat” in 2023 compared to where the company is now, and said payroll growth will slow in 2023. But that is not going to be enough for investors like Gerstner, who called on Meta to aggressively cut its employee-related expenses by at least 20% by the end of the year.

The problem in Menlo Park is not just head count, though, and it won’t be solved by Facebook’s layoffs of janitors and shuttle-bus drivers, which will surely continue. No, the real problem at Facebook is Zuckerberg’s costly fixation with a technology that executives have sworn for years would be the next big thing, and gone broke trying to make it so: Virtual and augmented reality.

Zuckerberg has repackaged tech’s version of Shangri-La as the “metaverse,” and is spending billions on it, while his ad-based empire slows drastically. Yet when an analyst asked him Wednesday what the revenue opportunity in the metaverse is over the next three to five years, Zuckerberg’s rambling answer seemed to send Meta’s shares — one of the few carrots it has now to attract new employees — tumbling even further downward in after-hours trading.

Zuckerberg started by saying “that’s a factor, but it’s not the primary thing that’s driving it,” which — if he means revenue — is a terrible thing to say to any investor about a multibillion-dollar R&D effort. He then went into a long soliloquy that included phrases like “the ultimate social experience” and “just a very profound experience,” without making any business case for the spending.

“So I think that enabling more experiences is really the primary driver,” he summarized, after never truly touching on the metaverse revenue opportunities that he was asked about. “And then the sort of fortification against external risks is certainly a strategic advantage over the long term. But probably not the only reason why we’re doing this.”

Three months ago: Is Mark Zuckerberg taking the first step toward turning Facebook into Yahoo 2.0?

With Chief Operating Officer Sheryl Sandberg gone and Dave Wehner wrapping up his last week as CFO, no one countered Zuckerberg’s confusing technobabble with actual numbers. And what other executives did provide didn’t give confidence: Even as Meta’s outgoing and incoming chief financial officers tried to show how capital spending was coming down very slightly from their original projections for 2022, the numbers for 2023 are rising again.

Meta plans to spend $34 billion to $39 billion in 2023 on data centers, servers, infrastructure and an increase in artificial intelligence capacity, up from $32 billion to $33 billion this year. Meta said it is getting rid of office real estate all over the globe, and took a $413 million impairment charge in the third quarter to consolidate offices, and will take another $2 billion charge in 2023 to get rid of some of its office space, but any savings there will easily be supplanted by metaverse spending.

Scott Kessler, an analyst at Third Bridge, noted that as Meta’s revenue has fallen in the past two quarters and its spending has increased, its free-cash flow plummeted. In the third quarter, Meta’s free-cash flow was $173 million, compared with $9.5 billion a year ago.

“It’s not Halloween quite yet, but that trend is downright scary,” he wrote in a note to clients.

It doesn’t take an MBA to see that trend line and know a change needs to be made. Yet Zuckerberg, as we have constantly pointed out, is the unquestioned king of Facebook and doesn’t have to listen to anyone, just like Google executives only truly have to answer to co-founders and board members Larry Page and Sergey Brin.

Those Silicon Valley executives became billionaires because they ignored the whims of Wall Street as their companies were becoming tech titans. But now that those companies are mature and facing their biggest tests, the founder-kings are watching their fortunes — and their chances to continue luring the best and brightest with stock compensation — dwindle by the day, instead of admitting it is time to listen.

Source: https://www.marketwatch.com/story/facebook-and-google-grew-into-tech-titans-by-ignoring-wall-street-now-it-could-lead-to-their-downfall-11666836474?siteid=yhoof2&yptr=yahoo