The Trend

Oh Snap: Avoid This IPO

In early January 2017, we noted that an 800 lb. social networking gorilla was about to enter the room and that it could be more trouble than it’s worth.

That gorilla is Snapchat and it’s proving to be just that.

The other week, the company filed its S-1, which is a must prior to IPO. Unfortunately, it’s not looking like a safe bet. For one, according to Market Watch, sales will have to grow at a blistering pace to support a midpoint IPO price of $20 to $25. That could give it a near price to sales ration of 60 times earnings.  Facebook trades at 13.75 times sales. Alphabet trades at 6.

But Snap wants to IPO at 60 times earnings - a recipe for disaster. Plus, that would be one of the highest for any major U.S. IPO. To justify that valuation, the stock needs to grow its bottom line significantly soon.  And that’s not likely to happen.

Unfortunately, growth hasn’t been a strong point for the company.

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In fact, the company managed to lose $514 million last year on revenue of $404 million. It lost another $169 million in the fourth quarter on $166 million in sales, too. And growth in users seems to be slowing thanks in part to explosive competition. In fact, according to the S-1, its annual user growth is now below 23% - bad news. 

User growth dropped from 15% daily active users in the first two quarters of 2016 to 7% by the last two quarters of the year. The other risk here is that Snap could become another Twitter-like disappointment on the market. Remember, Twitter may have had a hot IPO at $26 and ran to $44 on the first day, but it was a flop, sinking as sales slowed.

In the case of Snap, money isn’t such a strong point at all. For it to be a hot stock to own, it must increase its growth rate significantly. We’re not sure it can. 

However, as we also noted in early January 2017, the build of excitement was likely to spill into related ETFs, much like the Global X Social Media ETF (SOCL), which has run from a January 10 low of $23.04 to $24.04 already in just weeks. As excitement build even more, SOCL could challenge a recent high of $24.45.

In short, as anticipatory momentum builds ahead of what appears to be another overvalued stock the better choices are still SOCL. When it comes to buying Snap Chat at IPO, you’re safer flushing your money than investing it.

We see more risks to the IPO than upside catalysts. It may be more interesting – and cheaper – to watch this one from the sidelines.