The Rally of Snap Stock Still Has Legs

Snap (NYSE: SNAP) stock has been all over the map since its 2017 IPO. After a horrendous start to its life as a public company, Snapchat stock has skyrocketed nearly 200% in the past year.

Snapchat Stock Won't Top $20 This Year, but It's a Good Buy on the Dip

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Snap’s recent earnings reports suggest the company is finally on the right track when it comes to consistently growing and monetizing its users. But with fourth-quarter earnings right around the corner, investors should consider taking some of their big gains off the table in the near-term just to be safe.

Snap Is Not a Leader

Snap’s nearly 200% one-year gain heading into its Q4 earnings, due to be reported on Feb. 4, is the type of rally  more likely to be delivered by a company that is dominating its industry and swimming in cash. There’s no question Snap has made tremendous strides in the past year, but it’s far from the leader of social media.

As of October, Snap had about 314 million active users. Facebook’s (NASDAQ: FB) flagship website is the clear social media leader with 2.4 billion users. YouTube has 2 billion users, Instagram has 1 billion users, Reddit has 330 million, and Twitter (NYSE: TWTR) has 330 million. Even relative newcomer TikTok has 500 million users.

But Facebook isn’t just beating Snap in the user department. It’s also beating Snap in monetizing its users. In its most recent reported quarter, Facebook’s average revenue per user (ARPU)  was $7.26. That number is ahead of Twitter’s $5.68 and Snap ‘s $2.12. Not only is Snap well behind the competition in ARPU, but its ARPU is only up about 5 cents from the fourth quarter of 2018.

At one time, Snap was considered the best way for advertisers to reach the coveted demographic of consumers under the age of 30. However, Instagram now dominates that demographic, and TikTok is growing the fastest in the category.

Opportunities Ahead

Despite Snap’s weaknesses, Bank of America analyst Justin Post says there are plenty of things to love about the company. The biggest change in Snap from a year ago is that its user growth has accelerated.In Q3, its daily active user growth jumped to 12.9% from around 4.5% in the same period of 2018.

Post says that, given the combination of  its user growth and its opportunities to close the monetization gap with Facebook and others, Snap stock can climb further.

“Snap still has a big opportunity ahead with a growing Millennial/Gen Z user base that spends 30+ minutes per day on the app, much more time than social peers,” Post says.

Post estimates that Snap’s revenue can rise by 40% in 2020, with its ARPU increasing 26%.

“Snap likely has a small fraction (of the) social advertisers on Facebook, and we think closing this difference can close the sizable advertising [cost per thousand impressions] gap to peers,” Post says.

By adding advertisers and implementing new content strategies such as Discover content and Dynamic Products ads, Snap should be able to make its business much more efficient in 2020.

Bank of America has a “buy” rating and a $22 price target on Snap stock.

Are the Positive Catalysts Already Priced In?

The million-dollar question for investors is what is already priced into Snapchat stock after its huge rally.

The average analyst estimate is calling for Snap to roughly break even on EPS in 2020 after reporting an 18 cent per share loss in 2019. Even looking ahead to 2021, analysts, on average, are estimating EPS of only 26 cents. That means Snap stock is currently trading at 73.4 times the average 2021 earnings estimate, a steep valuation to say the least.

Unfortunately, price-sales numbers don’t offer much comfort either. Snap currently trades at about 17.2 times its sales, well above the levels of Facebook (9.4), Twitter (7.6) and even Pinterest (NYSE: PINS) (11.6). Based on Bank of America’s 2020 revenue estimate of $2.42 billion, Snap’s forward P/S ratio is around 11, still on the high end of its peer group.

How to Play Snapchat Stock

It’s difficult to recommend buying a stock that is up nearly 200% in the last year. Unfortunately, Snap stock is more likely to fall than rise in the near-term. At the very least, I would take some profits off the table ahead of the company’s Q4 earnings.

However, Snap’s shares are now trading at just a 12% premium to their IPO price nearly three years after the company went public. It’s perfectly reasonable at this point to think the Snap bull case may have simply been early, rather than wrong.

Investors who are bullish on Snap’s long-term outlook should feel much better about owning the stock today than they did following the IPO in 2017. I just believe that, after Snap’s big rally, investors will get a better entry point in the stock some time in the coming months.

As of this writing, Wayne Duggan held no positions in the aforementioned securities.

Article printed from InvestorPlace Media,

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