Snap Inc (NYSE:SNAP) somewhat quietly has had a strong run. SNAP stock is up 35% from August lows, a decent rebound after the developer of Snapchat had dropped by 60% from post-IPO highs.
For the first time in a while, the question “Is SNAP stock a good buy?” seems like it might have a positive answer.
But I continue to believe that optimism is misplaced, as I argued last month. Snap Inc still needs Snapchat user growth to accelerate, and it needs to better monetize those users. The company hasn’t made that much progress, however, as witnessed by the sell-off after the company’s Q2 earnings report in August, which pushed the stock to an all-time low.
Investors seem to have forgotten the disappointment of Q2 over the past three months, and that seems to set up a potentially dangerous Q3 report on Tuesday afternoon. The options markets are expecting fireworks, pricing in a 14% move in SNAP stock this week. And unless Snap Inc’s results are noticeably better than they’ve been so far this year, that big move will be downward.
SNAP’s Q3 Earnings
Analysts are expecting Snap Inc to post $239 million in revenue, and an adjusted loss of 15-cents-per share. The sales figure suggests an 87% increase year-over-year, based on data from the company’s S-1/A filed in February.
From one standpoint, that seems reasonably achievable. The 87% estimated rise represents a notable deceleration from Q1 (when revenue rose 286%) and Q2 (153%). Given that Snap only recently has begun monetizing Snapchat — Q2 2015 revenue, for instance, was just $5.3 million — the slowdown makes some sense, as comparisons are getting tougher.
But the number also suggests a 32% increase quarter-over-quarter, which requires a substantial acceleration from Q2 (22%). That, in turn, suggests that analysts, and investors, are expecting solid user growth.
User growth has been a disappointment ever since Snap’s March IPO. The figure grew just 4% Q/Q in the second quarter, and unless Snap has made tremendous progress on the advertising side, similar growth is going to lead to another disappointing report on Tuesday.
That might be too big an ask. Deutsche Bank analysts downgraded SNAP stock in September, citing “waning” interest from advertisers. Brokerage firm Needham and industry analyst eMarketer followed with similar projections the next month. There’s simply not much evidence that Snap has made the progress on monetization that current estimates seem to predict.
More broadly, analysts simply are expecting a much better quarter from Snap. After three straight poor quarters (Q4 data, detailed before the IPO, didn’t look impressive, either), and with questions about advertiser demand, I’m not sure why exactly that’s the case.
Is SNAP a Good Buy?
To be sure, I don’t think the long-term case for Snap is necessarily broken. After recent declines, per-user valuation isn’t far off from Twitter Inc (NYSE:TWTR) or even social gaming provider Zynga Inc (NASDAQ:ZNGA). Snap stock certainly looks expensive, but it’s still learning how to attract domestic advertisers and it has minimal revenue internationally. Years of revenue growth and margin expansion lie ahead.
Meanwhile, I still believe part of the problem for SNAP stock unquestionably has been unfair expectations on both the company and CEO Evan Spiegel. While the performance of the stock since the IPO looks disappointing, this still is a company that’s gone from zero to 173 million daily active users in barely six years. No, Snap isn’t the next Facebook Inc (NASDAQ:FB). But that doesn’t make it an outright failure.
The problem at the moment is that those expectations still look too high, both short-term and long-term. There’s a real case that SNAP should trade below $10, even with growth going forward. A Q3 disappointment would strengthen that case and send SNAP shares tumbling.
Bottom Line on SNAP Stock
Even with Snapchat stock down nearly 50% from post-IPO highs, the valuation here can’t support another disappointment. SNAP still trades at roughly 16x revenue on an enterprise basis. It’s unlikely to be profitable until the next decade. Snapchat stock can fall sharply and still look expensive on a fundamental basis.
And at this point, with SNAP stock up 30%+ since the last earnings report, expectations are rising. Meeting estimates very well might not be enough; investors are going to be looking for a beat both in terms of revenue and user growth.
SNAP might be able to post that beat, but given its recent history, I sure wouldn’t bet on it.
As of this writing, Vince Martin has no positions in any of the aforementioned securities.
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