Meta Platforms (META 0.23%) management says it's time for a shift in strategy for Instagram and Facebook's Reels feature.
Since launching Reels on Instagram in 2020, Meta quickly scaled the feature, reaching hundreds of millions, if not billions, of users. In fact, it's grown so large so fast that it's cutting into a lot of time spent with other features on Instagram and Facebook, like the feed or Stories. And since the team has been mostly focused on growing the audience, that's contributed to a decline in revenue per user.
While marketers have been able to advertise within Reels since 2021, the "monetization efficiency," as management put it, is still well below that of Stories or the feed. CEO Mark Zuckerberg says there's limited value in continuing to focus on scale instead of monetizing the audience it already has.
Cutting into profits
Meta currently faces the challenge that as more people watch Reels on its apps, it's basically losing money because they aren't looking at ads in the feed or Stories.
"Currently, the monetization efficiency of Reels is much less than feed, so the more that Reels grows, even though it adds engagement to the system overall, it takes some time away from feed and we actually lose money," Zuckerberg explained on the fourth-quarter earnings call.
Of course, the long-term benefits of Reels stand to outweigh the short-term pain. Reels is a direct response to TikTok, which poses a significant threat to Instagram and Facebook. Meta would much rather its users spend time in its apps at a lower monetization level than in its competitors' apps, where it won't make any money at all.
TikTok was already massive when Instagram launched Reels, and it's only gotten bigger since. As such, it was of the utmost importance for Meta to focus on getting as many people to engage with Reels as possible, which would theoretically stop them from leaving the app for similar content on TikTok or another competitor.
But at some point, Meta needs to improve the monetization efficiency of Reels in order to help the company return to revenue growth. Otherwise, it'll see declining revenue and operating margins as it uses more resources to engage users at a lower average revenue.
Zuckerberg says that time is now. "I think at this point, the question is, is there any strategic advantage to letting it scale further than would be profitable to do? And I think at the scale that it's at right now, it's not clear that there's much strategic advantage," he told analysts during the call.
NASDAQ: META
Key Data Points
Getting to revenue neutral and beyond
Management expects Reels to monetize at the same level as Stories or feed by the end of this year or early next year.
Zuckerberg said Reels created a $500 million revenue headwind during the third quarter. That's $2 billion per year that would theoretically translate into pure operating profits for Meta. And that's not insignificant. For 2022, that would've been a 7% boost in operating income, or a 1.7 percentage point improvement in operating margin.
Once Reels stops being a drag on profits, it can contribute to revenue growth. That'll come in the form of both the growing engagement with the format and continued improvements in monetization.
Analysts currently have very modest expectations for Meta's revenue growth. The Wall Street consensus calls for just 5% revenue growth in 2023, less than $6 billion total. In 2024, that growth will accelerate to 11.4%.
Getting time spent on Reels to revenue neutral with time spent with other formats on Instagram and Facebook will be a big help in outperforming those expectations. Combined with the continued growth in engagement from users, which shouldn't slow down much despite the change in management's focus, Reels is shaping up to be a source for revenue growth over the next few years after dragging down revenue during the last two years.
Investors may be smart to add more Meta stock to their portfolios as the potential for Reels starts to come through in the company's financials.
