Business

Investors pull out from Snap Inc. as initial IPO hype subsides

After starting off red hot with its IPO, Snap shares took a plunge after analysts gave the company a “sell” rating.

Two weeks after Snap Inc.’s $24 billion initial public offering, investors are still divided over the long-term prospects of the newest entry into the public social media industry. Many experts believe that Snap has the potential to be the next Facebook while others suspect it could follow Twitter’s path.

Shares of Snapchat’s parent company Snap, launched with a valuation of $17 per share, opened at a robust $24 and surged a further 44 percent to an impressive $28 before plummeting below its opening to $21—all within a week of its highly anticipated IPO. Sitting at approximately $20 per share last week, Snap is showing signs of calming its volatility in its second week in the markets.

To put the company’s performance into context, Facebook, Inc.’s IPO valuation price also dropped significantly after entering the markets. After holding its IPO at $38 per share, Facebook dropped as much as 40 percent in the months following. As of press time, the social network company’s share sits at $140. Conversely, GoPro Inc. debuted at $28 per share before soaring as much as 300 percent to $86 in its first few months. The stock is now priced at $8. An IPO’s beginning performance is often not a solid basis for adequately measuring its long-term potential.

Instead, investors are considering the intrinsic value of app developer. Snapchat allows users to communicate through the primary medium of photos and videos, which uniquely disappear after the receiver views the message. This photo-communications app, which gained incredible international popularity among millennial populations, was launched by a couple of Stanford University students only six years ago.

From the conceptual perspective, Snap shows great potential. The business did not necessarily take market share from social media outlets such as Facebook, Twitter or other major players—instead it created an entirely new market of ephemeral photo communication. The largest advantage Snapchat had was lack of competition, which led the app’s number of daily active users to grow exponentially. With 48 percent year-over-year increases, Snapchat’s daily active user growth once surpassed all other social media platforms of its time. The company reported a total of 158 million users in 2016.

Since then, Facebook and Instagram have also shared in some of Snap’s intended markets with their own iterations of the service. Earlier this month, Facebook’s Messenger launched “Days,” a new feature that will allow Messenger users to post updates that disappear after 24 hours.

Unfortunately for Snapchat, growth may have reached its climax as the increase in daily active users has dropped from 15 million to 10 million between the first and last quarters of 2016. This raises significant concerns for investors, who naturally seek high growth potential in their choice investments.

Snapchat’s limited user base may also be to blame for this abrupt strike of growth—unlike Facebook, which boasted a total of 1.22 billion daily active users for its fourth quarter of 2016, Snapchat has not been able to reach users of all ages. Most users of the app fall between the ages of 18-34, which suggests that the service is not as attractive to older generations. Its user base is considerable however, in its quality—60 percent of daily users who dedicate 30 minutes to the app tend to visit Snapchat over 18 times per day.

Like Snapchat’s user data, its financials are as concerning as they are impressive. At $17 per share, the company was originally valued by the investment bankers at Goldman Sachs Group, Inc. and Morgan Stanley, who oversaw the underwriting of its IPO, at a whopping $24 billion—a figure that many analysts are arguing overvalues the company.

As a company that has never made profit, but rather, accumulated consistent negative net incomes totaling hundreds of millions over its short existence, the $24 billion valuation was a clear overestimation to some. Other tech-related companies have warned that they would never achieve positive net income either, such as Etsy and Twitter, but Snap believes itself to be different.

This leads to the bullish argument to focus on revenue growth alone, which is the overwhelming cause behind Snap’s potential prosperity, if any exists. Increasing more than 600 percent in the last two years, Snap brought in more than $400 million in revenue in 2016, most of which comes through advertising. Although the growth is almost unparalleled, the company was still valued at 77 times its earnings days after its public offering—a statistic that, again, contributes to the arguments over its overvaluation.

Those who remain bullish on Snap are betting that Snapchat will do the impossible—maintain its unrealistic revenue growth prospects. If the new social media platform can survive increasing competition, maximize ad revenues and grow its user base, maybe it can be the next Facebook—but for now, investors are better off waiting and seeing just what this young company is capable of doing before jumping into the hype.

March 20, 2017

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