Snap Inc. just had one of the biggest technology initial public offerings in history. Not only did the maker of the popular Snapchat app raise a lot of money, but the IPO appears to have been a huge success for buyers. Institutional shareholders who snapped up shares at the $17 (U.S.) list price were rewarded with an instant 40-per-cent return on investment as the shares opened for trading at $24 Thursday morning.
I'm watching this party on the outside. I'm not buying into this story, and my reasons have very little to do with the high valuation or mounting financial losses.
The success of an IPO is a short-term phenomenon. The fund managers who were able to grab IPO shares look like geniuses, but they were taking a gamble. Tech IPOs don't always exhibit huge first-day pops. And even when they do, things can quickly sour if Wall Street doesn't see strong financial results in the first few quarters of being public.
As for me, I take a much longer perspective and I won't invest in the shares unless I think they're clearly leading an important, new area of technology where they also have a sustainable competitive advantage.
Much of what I've read on the Snap IPO is about the company's mounting losses. In 2016, for example, Snap lost $514-million on revenues of $405-million. Revenue grew a lot, but so did losses.
This, in itself, doesn't bother me in the slightest. It's very normal for fast-growing companies to invest like crazy to expand their user base, attract advertisers to their platform and … lose more money in the process. Lack of profitability and mounting losses make good headlines, but they say nothing about the company's long term future.
The valuation also seems quite high at first glance. Snap's market capitalization is over $30-billion, meaning it trades at about 80 times last year's sales. This is what people are talking about, but it's not very meaningful. If Snap can drive revenue growth the way Facebook has, the current pricing may look like a bargain in just a few years.
Long-term growth is what I care about, and it's quite clear that Snap depends on advertising revenue to drive financial growth. This can only happen if Snap is able to massively grow its user base. They've got an average of 158 million daily users compared to Facebook's 1.2 billion users.
This very much looks like a David-versus-Goliath story, but I don't see Snap with any effective weapon with which to generate the user growth that would give them the opportunity to beat Facebook. I don't see anything particularly special or different in Snap that creates a long-term sustainable advantage. The public seems to agree, considering that user growth is not accelerating at Snap. In the past three quarters they've added 21 million, 10 million and, in the most recent quarter, five million new users.
Even if Snap did achieve super-strong user growth, the race would be far from over. Advertisers just don't show up unless you give them amazing tools to target their specific audience. Facebook makes this incredibly easy. Online advertising is a big area of interest for me and a topic much too big to get into here, but I think Facebook may pretty much be unstoppable over the next five to 10 years.
And Facebook's user base? It's still growing. I'll let the speculators focus on Snap while I happily sit back and own a long term position in the true disruptor and market leader.
Disclosure: The author owns shares of Facebook, both personally and in his Strategy Lab model portfolio.