Snapchat IPO: The “Morning After”

Anticipated Wall Street darling Snap, Inc (SNAP), parent company to Snapchat, had a breakout IPO early this year, ranking only behind Alibaba (BABA) as the most successful tech IPO in recent history. However, plenty of investing experts had doubts about its sustainability. After the company turned in an abysmal first quarter earnings report, it seems they may have had good reason to believe so. Should you invest in Snap? Since the dust has settled after that hallmark bell ringing, what does it look like now?

  • Overvalued? A common theme with tech companies is uncertainty about whether the company can live up to its valuation. How many users do they have? How fast are they growing? Where is their primary source of revenue?At the time of its IPO, Snap had a valuation at 15 times what its net worth was…a striking disparity. The company pitched investors on a new valuation model: quality over quantity. Though their user base has always been substantially smaller than their competitors, users do visit 20+ times a day, spending an average of 30 minutes a day on the app. But can they keep it up? The company is nearing user saturation–hitting the user “glass ceiling” doesn’t bode well for follow-through on valuation.
  • Questionable reputation. Investors were concerned early on with the app’s initial reputation as a “sexting” channel: young girls (Snap’s early user base) were taking nude photos of themselves to send out, trusting the photos wouldn’t last (Snapchat’s initial selling point that the photos disappear.) CEO Evan Spiegel assured investors that the company had pivoted and these considerations were no longer concerns, but the lingering distaste remains.Then there’s Spiegel’s own mini-scandal, regarding his emails as a young founder. The emails, discovered by Gawker’s Valleywag, were crass and sexist, casting a shadow on the entrepreneur who had already famously–and perhaps arrogantly–rejected a $3B offer from Facebook (FB) to be acquired.
  • Concerns over ownership. Perhaps it was his own email scandal that made Spiegel into the intensely private CEO he is now. He has built a reputation for secrecy: the apprehension among experienced investors stems from the question of whether Snap has a plan for the future at all. No one knows for certain because Spiegel plays such plans so close to his vest, which does not create an environment to attract top talent.Snap also did a highly atypical thing during their IPO in selling common A stock as soon as they went public. Common A stock precludes its owners from having “voting shares” or ownership stake in the company. Such stock is not abnormal for companies to sell, but the timing gives rise to question, since most companies sell after their initial IPO results. The stock also produces no dividends, and Spiegel & co-founder Bobby Murphy have structured the company so that, even if fired, they continue to hold most of the voting power. This lends itself to concerns that Snap’s executive team feel no real accountability to shareholders, who should be the real owners when a company goes public.
  • Money left on the table? The Snap team may have taken bad advice from Wall Street in agreeing to sell their shares at less than their maximum value. In doing so, they left $1.1 billion on the table–a sophomoric move for the founders. Who knows whether or not the company will live up to its initial stock prices, but, as Fortune says, the cash cushion they could have received could have covered losses for two years.
  • Stiff competition. Call it a grudge, but Zuckerberg and the Facebook and Instagram teams have wasted no time flagrantly copying each new feature the Snapchat team launches. When Snapchat opened up Stories in 2013, user sign-up and engagement skyrocketed. A short three years later, Instagram (owned by Facebook) launched their own Stories, followed by Facebook early this year, shamelessly co-opting even the name of the feature. After Instagram launched their own Stories function, Snapchat engagement fell by 82%.The truth is that Snap’s competitors don’t seem to have a problem co-opting their ideas for a much larger, much more engaged audience. With Snap user numbers already nearing saturation, this could spell real trouble for the brand’s future if they fail to innovate quickly and concisely.
  • Revenue vs cost. Snap’s primary revenue source comes from advertising; their user base of 18-34 year olds is highly desirable for advertisrs. The problem is the barrier to entry: brands spend an average of $550,000 – $800,000 to advertise. Only brands with the extra cash to reach a highly targeted audience will be able to invest. All that said, the brands that do seem to be keeping Snap afloat in a big way. Spectacles, Snap’s hardware innovation and the contemporary of Google Glass, was initially touted as an additional and major revenue stream for the company. However, since the launch of Spectacles late last year, the company has been extremely lax on advertising the product. Many Snapchat users have still not heard of the hardware; many more cannot or will not spend the money on it.

    Finally, cost output remains a concern. Snapchat’s cost to revenue is 93 cents on the dollar: not an excellent ratio for explosive growth or meeting initial expectations.

The real losers in the Snap IPO aren’t even the initial buyers–they are the second generation who bought up the stock after it fell from its $24/share release to $17/share. These people, believing they were cashing in on a unicorn, may walk away with a hard loss. While it is tough to tell how Snap will recover–they are a very young company that could be poised for exponential growth–we know that the initial “success” of the IPO has been followed by several red flags. Buyers should proceed at their own risk, knowing that this could either be an unforeseen tech success story, or an unmitigated flop.

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Written by Danielle Bilbruck

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