Snapchat: The Next Facebook?

| About: Snap Inc. (SNAP)


Snapchat has a Twitter problem.

Which is a combo of quickly slowing user adoption.

Coupled with advertisers that can't wrap their heads around the potential returns (ROI) of using the platform.

Snap Inc. (NYSE:SNAP) has not fared well since its IPO - or at least not how many investors expected. The stock came out hot, but quickly regressed after a poor earnings report.

Of course, the big question becomes, does this represent a buying opportunity or is it a signal of worse things to come?

The IPO Effect

Since the IPO, SNAP's shares have fallen from a from nearly $30 to hovering around $20 today. However, we have seen this before with other IPOs, and it could be the "norm" these days. That brings about a bigger question, why does anyone bother investing in IPOs?

More often than not, in recent times - (Twitter (NYSE:TWTR) anyone?), the share price trajectory is downward after peaking in the months following the IPO. This comes as valuations are ridiculously high and the growth projections become unrealistically astronomical.

This has been played out many times, to the point that investors should start catching on to the IPO fallacy. Sure, there are exceptions - Facebook (NASDAQ:FB) is probably one of the most famous. So how do you tell which companies might actually be a keeper, when Wall Street is hyping the latest and greatest?

Or, specifically related to SNAP, how do you decide if this is the beginning of a continued selloff - being the next Twitter - or an excellent buying opportunity?

Snap's IPO report should've been a telltale for many investors, as even the owners could foresee great risk. For instance, it was clearly noted that a drop off in user growth could affect revenue - which is exactly what happened. Since SNAP is a growth stock, analysts have slammed it for lack of growth.

So, perhaps, it's useful to remember that the stock market was created using old school values. In other words, companies which offer good products or services and have smart management are likely to succeed. And so are the investors who buy stock in them. Let's stack SNAP up against that criteria.

It's understandable that investors could be lured to a company with a product that is so popular and innovative. Yet, before risking hard-earned cash, dig deep to understand whether the market is understanding growth, or is a stock seemingly cheap for a reason.

Does it fill a need?

Snapchat gained enormous popularity because there was no other product available at the time which offered the same features. However, a crucial fundamental component is fending off competition. Since Facebook-owned Instagram now offers pretty much all of the features Snapchat does, and more, how does that affect Snapchat's future?

The fact that Instagram has become such a massive competition in a relatively short period means that SNAP management needs to be more skilled than ever.

But is management skilled enough to make/keep its company successful?

One of the most important responsibilities of any management team is to figure out a way to create customer loyalty. Coca-Cola (NYSE:KO) kept their formula secret so customers couldn't get the same drink anywhere else. Uber, on the other hand, has abused its clients and drivers so much that both will switch, if convenient.

The drop in Snapchat's user growth seems to indicate that fewer Instagram users are switching over because there is simply no need to. As well, it's just not appealing to a braider audience. The core demographic of Snapchat users - teens and 20s - is notoriously fickle, which is a combination for continued disappointment in user growth for Snapchat.

The sliver lining: Can it be profitably monetized?

This was a lot easier to answer before the existence of the internet. One of the biggest problems digital companies faced for many years was how to monetize their services, because so many of them were offered for free and ads could be easily blocked.

Once more, Snapchat's demographic is working against it. Even though the company has excelled at targeting a very hard to reach demographic, users of that age simply do not have a lot of disposable income. That means some advertisers won't see the use in even giving Snapchat a chance. As well, tracking ROI on Snapchat for advertisers is nearly impossible.

Bottom Line

It's hard to imagine a scenario, especially given how things have faired since is IPO, where Snap could make a long-term comeback. Even if the company manages to create a new, wildly popular feature, chances are Instagram or other apps could replicate it. And, in the meantime, Snapchat's current user base could very well outgrow it. At this point, there seems to be more factors working against SNAP, than for it.

Although most of the $2.2 billion the company lost in the last quarter was for a non-cash, one-time charge, the all-important user growth numbers seem to "bear" that out. I want to see more from Snapchat in how to convince (1) new users to give Snapchat a chance (2) advertisers to try out the platform and give them a tangible way to track just how well the ads do - two things that Twitter failed at, hence the reason their stock price has steadily fallen from nearly $70 a share to the mid-teens - where it appears stuck. Snapchat looks to be more like the next Twitter than the next Facebook.

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.

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