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Snap, Inc. Earnings: What to Watch

Adam Levy, The Motley Fool

Snap (NYSE: SNAP) reports its first-quarter earnings results on Tuesday.

The company surprised investors with a strong fourth-quarter performance, beating expectations for revenue, earnings, and user growth. Shares spiked following the report, but the stock has given up those gains in the months since after several high-profile user complaints about the redesign and an offensive advertisement.

Analysts are looking for Snap to report a loss of $0.17 per share on revenue of $243.55 million for the first quarter. But investors will want to look beyond just the headline numbers and dig deeper into Snap's results. Here's what to watch.

Snap Inc. printed in black letters on a yellow background

Image source: Snap.

User growth and engagement

Snapchat's user count is always top of mind when Snap reports earnings, but there should be a particular focus on the number this quarter after Snap rolled out its redesigned Snapchat app to all of its users in February.

Snap said its early tests resulted in higher engagement, particularly among older users, and it resulted in better ad performance. But after the rollout, users complained about the new design, and Snap recently relented by tweaking it a bit more (a redesign of the redesign).

Snap continues to face pressure from Facebook's (NASDAQ: FB) Instagram, which blatantly copied Snapchat's Stories format a couple of years ago. Instagram Stories now has 300 million daily active users, and WhatsApp Status (the WhatsApp version of Stories) has even more. As Facebook's Stories products grow in popularity, users have fewer reasons to try Snapchat.

Snap added 8 million net new users in the first quarter last year. DAU growth accelerated in the fourth quarter, though, so investors should look to see if Snap can maintain that momentum despite concerns over the redesign.

Profit margins

Another focus for investors should be on the company's profit margins.

Snap's biggest costs of goods sold are its infrastructure costs and its revenue share payouts for ads it runs in the Discover section. Snap has shown progress on improving both of those costs.

After restructuring its contracts with Google and Amazon for cloud-computing services, Snap saw a big improvement in its infrastructure expenses. It spent just $457 million on cloud computing last year, up 30% year over year. Still, Snap was saving money on a per-user basis.

Ultimately, relying on third-party infrastructure will prevent Snap from producing margins at the level of Facebook or other big social media companies. Still, Evan Spiegel believes its contracts with Amazon and Google provide it an advantage.

Regarding revenue share, there are two opposing forces in play. The first force is the redesign's supposed impact on Discover viewership. If it does in fact increase the amount of third-party content users are watching, as Snap management indicated in its fourth-quarter earnings call, it should increase revenue sharing.

On the other hand, Snap continues to open up more owned inventory in places like Stories. If the mix of ads shifts to more owned ad inventory, the gross margin on Snap's ad revenue will improve (all else being equal).

Moving a bit lower on the income statement, investors should look for lower operating expenses since Snap went through several rounds of layoffs during the quarter. During the fourth-quarter earnings call, CFO Drew Vollero said, "the primary driver for operating expenses remains people cost," so getting rid of a whole bunch of people should improve operating margin. It may cost Snap in the long run, though.

Ad prices

The last thing to pay attention to is management's commentary on average ad price. This isn't an official metric, and management might not provide exact details, but it has provided relative numbers in the past. Snap's Snap Ad pricing fell 70% year over year in the fourth quarter.

The decline in price is due to the shift in the Snapchat self-serve ad platform. Marketers bought 90% of Snap Ads through the self-serve platform last quarter. The self-serve platform uses an auction format, so Snap doesn't have as much control over ad pricing. Over time, the company expects an increase in bidders on the platform to result in increased average ad prices.

Meanwhile, the company is rapidly expanding ad inventory. Ad impressions increased nearly seven-fold in the fourth quarter. Management says it still sees opportunities to increase ad load in the app, so investors shouldn't expect that to slow down.

While the transition to the self-serve platform is largely behind Snap, it won't improve ad prices until it slows the expansion of its ad inventory. Still, investors should look for an improvement in the year-over-year decline in ad prices to gauge the demand side of Snap's ad business.

Snap investors won't want to overlook the details when Snap reports its first-quarter earnings on Tuesday. Aside from the headline numbers, investors should really dig into the income statement and listen for management's comments on user growth, the app redesign, and the self-serve platform's impact on ad pricing.

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John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool's board of directors. Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool's board of directors. Adam Levy owns shares of Alphabet (C shares), Amazon, and Facebook. The Motley Fool owns shares of and recommends Alphabet (A and C shares), Amazon, and Facebook. The Motley Fool has a disclosure policy.