For Twilio, I wrote a piece estimating its IPO share price (I estimated a filing range of $16-$18 with post-IPO pop to $24+; TWLO later filed with an initial IPO price range of $12-$14, ultimately offered IPO shares at $15, which then traded up to $28 to close first day). I later used the analysis to support a follow-up piece in August 2016 after Twilio had traded up to $50-$55 to illustrate how it was absurdly overvalued. I noted then that a $30 per share price was more in line with where the company's performance supported; three months later, TWLO had traded down to $30 per share, where it hovers to this day.
For sport, I'll again try my hand at accurately estimating IPO prices. This time for Snap.
Snap filed its S-1 filing for initial public offering on February 2, 2017, and a week later, on February 9, an amended S-1 filing, with the most notable update being admission that competition has impacted user growth and disclosure of a 5-year commitment to spend $1B with Amazon Web Services (NASDAQ:AMZN).
Snap began in 2010 as an iPhone app developed by a few 20-year olds at Stanford that allowed users to send pictures that disappear after a pre-set time set by the sender. Two years later, it had amassed 1M users. Another ~18 months saw the addition of features like "stories" (chronological pictures of a user's day), "smartfilters" and replay (time stamp, temperature, and speed), and "chat" (text and video chat), helping Snap reach 50M users midway through 2014.
Impressive User Base, But Growth Slowing And Young Users Cost A Lot To Acquire And Addictive High Engagement Costs a Lot to Service
Today, Snap has 158M daily active users (DAU) who spend on average 25 to 30 minutes a day sending on average 16 snaps a day (2.5B snaps sent daily), with 25% of users posting daily to their stories. This engagement is ravenous for a mobile app, representing ~2x the time engagement of Instagram and 20x+ the time engagement of Twitter (NYSE:TWTR), and is more in line with video and desktop-centric sites like YouTube (40 minute avg. daily user engagement) and Facebook (NASDAQ:FB) (35 minute avg. daily user engagement). Snap introduced a physical product, Spectacles, which is too early to determine any meaningful augmentation to its mobile app business.
Snap's user base has grown fast but is slowing, and the capital cost to amass Snap's base is high relative to other platforms. At its IPO, Facebook had 526M daily active users, growing 9% quarter over quarter, which was built on a cumulative invested capital base at IPO of $3.5B, or $7 of invested capital per daily user. Twitter had over 100M daily active users, growing 7% quarter over quarter, which was built on a cumulative invested capital base at IPO of $1.1B or ~$10 of capital per daily user.
With its 158M daily user base, Snap falls well below Facebook's scale at IPO, but is 1.5x Twitter's size. However, Snap revealed a rapidly slowing quarterly growth of 4% in most recent Q4, and it took Snap $2.7B of cumulative invested capital to accumulate this base, or $17 of invested capital per daily user (2.6x the cost of Facebook's base and 1.7x the cost of Twitter's). Snap users have been more expensive to accumulate and also cost more to service: the average quarterly COGS per daily active user for Snap ($1 quarterly COGS/DAU) is 1.6x more expensive than Twitter's ($0.60 quarterly COGS/DAU) and 1.8x more expensive than Facebook's ($0.50 quarterly COGS/DAU). Another way to see this is that Snapchat only just logged its first quarter of material gross profit profitability in Q4 '16 (granted it is very young in its ad monetization path).
Time will tell if Snap's users ultimately prove compellingly profitable to cover high initial acquisition costs and higher ongoing service costs.
Advertising Revenue Model In Infancy, But Compelling Early Results And Impressive Success-Metric Measuring Capabilities Demonstrated
Snap describes itself as a camera company, but essentially all revenue comes from third-party advertising. In other words, the product Snap is actually selling is the eyeballs of its users. As it says in its S-1:
Our strategy is to invest in product innovation and take risks to improve our camera platform. We do this in an effort to drive user engagement, which we can then monetize through advertising"
How is Snap doing in monetizing its user base with advertisers relative to Facebook and Twitter? At IPO, Facebook generated ~$2.00-$2.50 in revenue per daily user (lumpy, but relatively stable in the prior quarters), and Twitter generated $1.60 in revenue per daily user (stronger growth of 14% quarter over quarter). Snap only generated $1.00 per daily user, but quarter over quarter revenue per user growth over the prior 3 quarters was 58%, 67%, and 24%. Snap is demonstrating a compelling ability to quickly tap advertising partners and drive exponential revenue growth (Snap's Q4 '16 revenue of $166M is 5x larger than its Q4 '15 revenue).
Snap's advertising is driven by a variety of innovative ad offerings that prompt high user engagement and sharing. Below is my favorite advertiser case study that Snap highlighted:
The quantifiable results Snap is driving for advertisers suggest it should capture a material portion of total mobile advertising market spend, which was a $66B market in 2016, expected to grow nearly 3x to $196B in 2020.
Snap Valuation History And My IPO Share Price Estimates
Snap's valuation history is mouthwatering: 2-3 years after founding, the company raised $80M at an $800M valuation from IVP in June 2013. A few 14 months later, in August 2014, Snap raised $485M at a $10B valuation (represents $150+ in enterprise value per active daily user at the time; keep in mind that Instagram sold for $1B to Facebook, which represented a per registered user value of $37, so assuming 30%-50% daily active, the implied value per daily active would still be half of Snap's at $75-$90). A few 7 months later, in March 2015, Alibaba (NYSE:BABA) invested $200M at a $15B valuation (or $185/active daily user at the time). Finally, in May 2016, 14 months later, Snap raised $1.8B at an $18B valuation (a decline to $126/active daily user at the time).
It's been widely reported that Evan Spiegel, Snap's CEO, is setting IPO valuation expectations at $25B (this would represent a 20-25% premium in the per active daily user value that Snap raised at less than a year ago, for whatever that made up valuation metric of mine is worth).
Getting to per-share estimates, Snap has around 1.1B shares, so a $25B valuation expectation would suggest a post-offering/trading share price of around $22. Applying an underwriter's 15% IPO offering discount would suggest to me Snap could file an amended S-1 with a filing range of $18-$19 per share, if it intended to aggressively follow through with this early press messaging on valuation expectations.
But where do I actually believe Snap will file? I suspect conservatively much closer to its last round's valuation range of $18B, which would suggest a $15-$16 per share filing range. I'd anticipate it'd revise the final offer price upward after initial market demand feedback, and then look to see shares pop to a $22+ trading range or higher, depending on frothiness and buzz.
What valuation would public comparable valuations suggest Snap is worth? Readers familiar with my prior Twilio analysis know my valuation methodology here centers around analyzing forward (2017E) revenue multiples of a comparable set of public tech companies (in Snap's case, I'd use a comp set of online media companies) relative to their forward revenue growth rates. I've found that this analysis is predictive of 60%-70% of the variance seen in valuation variations of public companies, particularly to the pre- or early profitable tech sector.
Below is the scatter plot correlation of online media companies' forward revenue multiple (current enterprise value divided by 2017E revenue) relative to each company's 2017E annual revenue growth:
Source: CapIQ market data and consensus estimates
Facebook rounds out the group of 14 companies as the growth and valuation leader with a forward revenue multiple of 9.5x on estimated 2017E revenue growth of 37%. Companies growing 2017E revenue 25%-30% like Zillow (NASDAQ:Z) and Netflix (NASDAQ:NFLX) are trading around 5x-6x revenue. Slower growth companies like Zynga (NASDAQ:ZNGA), WebMD (NASDAQ:WBMD), and Bankrate (NYSE:RATE) with growth rates less than 15% trade at 2x-3x 2017E revenue.
So where does Snap's 2017E revenue growth rate look like it will fall out, and what would that imply about the revenue multiple it should enjoy? Well, Snap presents a difficulty, given it will significantly surpass a 37% revenue growth rate and exceed the bounds of "known" growth rate valuations our public comp set provides, which means we would need to extrapolate from the trend line, which isn't ideal for accuracy, but what the heck, let's get crazy.
To estimate a general 2017E revenue growth, I assumed 3.5% to 4.0% quarter-over-quarter daily user base growth in line with Q4 '16, which gets to ending 2017 daily users of 183M, up 15% year over year. I also assumed 20% quarter-over-quarter ad revenue growth per daily user (slightly below Q4 '16 growth of 24%) through full-year 2017, which results in Q4 '17 quarterly revenue per daily user of $2.19, up 110% over Q4 '16 actuals of $1.04. These two assumptions alone put 2017E revenue at $1.1B to $1.2B for 2017E growth that is nearly 200% over 2016. There just isn't a public comparable for this kind of exponential revenue trajectory! Regardless, let's extrapolate based on our public market comps to determine Snap's "appropriate" 2017E revenue multiple... below is the extrapolation chart to help illustrate how ridiculous this becomes:
Applying the correlation equation to extrapolate Snap's revenue multiple suggests that at a 200% 2017E revenue growth rate, Snap should be valued at 27x 2017E revenue. Given our assumed 2017E revenue of $1.1B-$1.2B, Snap's enterprise value under this approach would be $30B for a share price around $27 per share.
Evan Spiegel and the Snap team, I sincerely wish you the best in hitting that "fair value" extrapolated valuation share price in aftermarket trading. This will be an interesting one to follow.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.