After making big gains earlier this year, Snap (NYSE:SNAP) stock has held steady at the current price level. Shares have traded around the $14-$16 price level since July. After the company’s earnings release on Oct. 22, there is now a clearer idea how the company will fare going into 2020.
Beating expectations in terms of revenue and user growth, SNAP stock inches closer to profitability. But this opportunity may already be reflected in the SNAP stock price.
Snap Inc. continues to sell at a premium valuation to its more established social media peers. With that, the company needs to sustain above average growth to support the current share price.
On the other hand, SNAP faces many headwinds. Competition from established players like Facebook (NASDAQ:FB), along with upstarts like TikTok, threaten the platform’s popularity. With shares trading on high expectations of continued growth, today may not be the best time to buy Snapchat stock.
Recent News For Snap Stock
Last quarter was particularly strong for SNAP stock. The company saw user growth of 7 million, higher than expected. Quarterly revenue surged to $446.1 million, compared with $298 million in the prior year’s quarter. But the company continues to be unprofitable. The company’s net loss was $227.4 million for the quarter. But backing out stock-based compensation of $161.2 million, and Snap Inc’s losses were only $66.2 million.
Snap Inc. expects fourth-quarter revenue to climb to between $550 million and $560 million, well above Q4 2018 revenue of $390 million. SNAP also expects “positive adjusted EBITDA” for the quarter. This adjusted EBITDA figure could be breakeven, or as high as $20 million. Snap is clearly moving in the right direction in terms of scaling to profitability.
But this wasn’t enough to move the SNAP stock price. In fact, shares took a small dip post-earnings. This indicates investors got ahead of themselves earlier this year, already pricing in future growth. Previously, the company succeeded in turning itself around, after the stock price took a bath in 2018.
Investors fled the stock last year, pushing shares as low as $4.82 on December 21, 2018. A major redesign and a move to a self-serve ad platform prompted jeers from investors. But Snap Inc’s bold strategy paid off. Revenues have continued to march higher. Investors rushed back into the stock, pushing shares up over 193% from the low.
But now, the SNAP stock price implies high expectations for future performance. Let’s take a look at valuation, and see why shares today are priced for perfection.
Snapchat Stock Richly Priced Despite Headwinds
On an enterprise value/sales (EV/Sales) basis, SNAP stock is richly priced compared to its social media peers. The company sells at a EV/Sales ratio of 12.2. This is substantially higher than Twitter’s (NASDAQ:TWTR) EV/Sales ratio of 5.7. Facebook also sells at a lower EV/Sales ratio (7.5).
Perhaps this isn’t the best comparison. Facebook and Twitter are well established, and are now profitable businesses. Snap Inc. is not that far down the pathway to maturity. A comparison to a still-growing social media company like Pinterest (NASDAQ:PINS) may be more appropriate.
But Pinterest also sells at a lower EV/Sales ratio than Snapchat stock. Pinterest’s EV/Sales is 9.4. Whatever way you look at it, investors have to pay a steep price to ride the wave with Snap Inc.
Is this valuation premium justified? Snap stock has proved investors wrong in the past year. But going into 2020, they may start to see emerging headwinds impact the company. One large concern of mine continues to be their dependency on the youth market. Snapchat’s hold on the younger generation is threatened on many fronts.
The first is Facebook’s Instagram platform. As InvestorPlace’s Tom Taulli noted on Nov. 4, Instagram has successfully copied many of Snapchat’s new features. TikTok is another threat to Snap’s hold on Generation Z. Just like how Facebook usurped MySpace, TikTok could do the same for Snapchat.
But TikTok’s potential rise is not set in stone. TikTok faces many challenges in its drive to dominate social media. Its Chinese ownership could also result in regulatory issues. It remains to be seen whether TikTok is a true threat to Snapchat’s popularity, but it is an important caveat for Snapchat stock.
All Bets Are Off For the SNAP Stock Price
After its terrific run in 2019, could the SNAP stock price make bigger gains in 2020? At the current valuation, that seems unlikely. Investors have gone from shunning the stock, to pricing in most all of its growth into the share price. Snap Inc. clearly has made vast improvements, as seen from their user growth.
But in a highly competitive market, it’s tough to see how the company can continue to stay relevant, especially with such a fickle market (teens and young adults). With companies like Facebook offering continued growth and a reasonable valuation, buying Snapchat stock doesn’t make sense at the current price.
As of this writing, Thomas Niel did not hold a position in any of the aforementioned securities.