Key Points

Meta caught investors off guard with a notable drop in earnings per share.
Investors remain cautious regarding the company's capital spending plans.
Adjusted for a tax penalty the stock trades at a price to earnings ratio under 20.

Meta Platforms (NASDAQ: META) declined sharply following its second quarter earnings report on Wednesday.

The shares fell more than 10 percent in after hours trading after missing bottom line estimates amid higher expenses tied to legal costs and severance payments.

Earnings per share dropped from 7.14 dollars to 6.18 dollars missing the consensus estimate of 7.22 dollars.

I had expected Meta Platforms to rise on the report but that did not occur. The company posted solid top line results with revenue climbing 28 percent to 60.8 billion dollars beating estimates of 60.3 billion dollars driven by 14 percent growth in ad impressions and a 12 percent rise in average price per ad.

Investors focused instead on declining profits and capital expenditures now projected at 130 billion to 145 billion dollars as free cash flow in the quarter fell below 1 billion dollars including finance lease payments. Management offered little reassurance on spending noting a massive opportunity in artificial intelligence.

Management also appeared less optimistic about its emerging cloud business than hoped preferring to deploy its artificial intelligence chips internally for higher returns.

Why the stock could recover

Meta's decline echoes Alphabet's experience last week when a solid report was overshadowed by capital spending rising toward 200 billion dollars resulting in its first quarter of negative free cash flow as a public company.

This is not a standard earnings shortfall. It reflects a leading firm choosing to invest heavily to lead in artificial intelligence. The cost of building that infrastructure is high yet Meta benefits from a rapidly expanding high margin advertising business that remains robust.

If the after hours decline persists Meta stock would trade at a price to earnings ratio of 21 and adjusting for one time tax penalties it would trade at a price to earnings ratio of 18. That represents an attractive valuation for a company projected to grow revenue more than 20 percent annually.

Investors appear to assume Meta's artificial intelligence investments will yield no returns but that sets a low threshold for the company to surpass creating meaningful upside if the bets succeed. If necessary the firm can reduce its artificial intelligence outlays allowing investors to benefit from the strong advertising business at a low price.

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Jeremy Bowman holds shares in Meta Platforms. The Motley Fool holds positions in and recommends Alphabet and Meta Platforms. The Motley Fool maintains a disclosure policy.

The views and opinions expressed are those of the author and do not necessarily reflect those of Nasdaq Inc.