Snapchat’s (NYSE:SNAP) IPO has mainstream media sounding alarm bells. Fortune wrote that “Snapchat Likely the Most Expensive Big Tech IPO Ever;” the Wall Street Journal said a “shadow looms over” its IPO. These opinions may all be true, but investors should buy SNAP anyway. However, there is one catch to the Snap Inc buying strategy.
In return for $3 billion, Snapchat refuses to give shareholders any voting power. This is a red flag for investors. If the company’s business invariably heads south, stockholders have no recourse.
SNAP Gives No Rights to Shareholders
Despite the lack of value in SNAP shares, speculators may still make a quick buck trading the stock. Just look at Twitter Inc (NYSE:TWTR) or Facebook Inc (NASDAQ:FB). These stocks still rose after going public — the difference is that Twitter’s near doubling was short-lived, while Facebook’s shares continued climbing higher:
Long-Term Risks With Snap Inc
But Snapchat’s biggest risk is Facebook and its subsidiary, Instagram. When FB launched Facebook Stories above the news feed, it took away a reason for millennials to leave the site and use SNAP. Similarly, Instagram Stories usage grew to 150 million daily active users in just five months. The stickiness of Facebook could erode Snapchat’s business value, putting its approximate $25 billion IPO market capitalization in question.
SNAP’s management hopes momentum investors will justify the valuation with the incredible user growth. The site had 46 million average daily active users. By Q2 2016, DAU reached 143 million. That growth is slowing. In Q3 2016, DAU growth for Snap Inc slowed to 62% year-over-year and to 48% by Q4.
Twitter’s user growth pales in comparison to that of SNAP. Nobody even talked about Twitter’s growth when it first IPO’d. On Feb. 9, the company reported first-quarter DAU growth of just 11% year-over-year. MAU grew just 4% YoY. Twitter forecasts advertising revenue lagging audience growth in 2017. Still, SNAP costs 60 times revenue, while Twitter costs 5 times sales.
In fact, Snapchat’s valuations will make Facebook stock look cheap. Just one bad quarterly earnings report from SNAP will send the stock down. Fundamentally, FB’s use of Snapchat functions on its own products will only win back the users it lost, which makes buying SNAP sound like a gamble. It is a potentially profitable trade, though, provided speculators set up a stop-loss. Beyond the first few days or weeks afterward, it makes little sense to hold Snapchat stock.
Another big red flag for Snap Inc is its lack of profitability. In its filing, the company disclosed it may never make a profit. It wrote:
“We have incurred operating losses in the past, expect to incur operating losses in the future, and may never achieve or maintain profitability.”
The company also said it has an accumulated deficit of $1.2 billion and a net loss of $514.6 million for the year ended December 31, 2016.
In its S1, SNAP differentiated itself from Facebook by stating its commitment to privacy:
“Our approach to privacy is simple: Be upfront, offer choices, and never forget that our community comes first.
We built Snapchat as an antidote to the context-less communication that has plagued “social media.” Not so long ago, a conversation among friends would be just that: a private communication in which you knew exactly who you were talking to, what you were talking about, and whether what you were saying was being memorialized for eternity. Somewhere along the way, social media — by prioritizing virality and permanence — sapped conversations of this valuable context and choice. When we began to communicate online, we lost some of what made communication great: spontaneity, emotion, honesty — the full range of human expression that makes us human in the first place.”
If users wanted privacy so much, they could use BlackBerry Ltd’s (NASDAQ:BBRY) BBM messenger. Selling the “privacy” angle will not sustain the user growth Snapchat needs to justify its stock price in the long run.
Bottom Line on SNAP
Trade Snapchat when the stock lists, but do not hold it for the long-term. This strategy involves trading the “pop” only. For investors, the stock price is not backed by any earnings.
As of this writing, Chris Lau was long shares of BBRY.
