In the highly competitive social media landscape, shares of Snap Inc (NYSE:SNAP) are currently shining the brightest. After three years of neutral performance, the stock has awakened to return 364% over the last 12 months. Increased revenue and daily active users have investors excited — but behind those appealing metrics, there are plenty of reasons to pump the brakes.
User growth is strong
Snap does have some favorable trends developing. Daily active users — a key metric — grew 21.6% year over year to 265 million in 2020, accelerating from 17.2% growth the year before. More impressively, revenue per user was up 33% in 2020. These combined to help Snap shrink its cash burn by about a third, from -$341 million to -$225 million.
Snap’s user growth bested Facebook‘s (NASDAQ:FB) 11%, but fell shy of Twitter‘s (NYSE:TWTR) 27%. Snap did add more actual users, though, because Twitter’s user base is smaller by about 70 million people.
Put simply, Snap is generating all the tools to eventually, some day, deliver a profitable year, but it remains to be seen whether growth will continue to accelerate in the same way this year and beyond. The company doesn’t face an existential crisis — new users are jumping onto the SnapChat platform in increasing numbers across all three major reporting global regions — but investors should be cautious about paying too high a premium for a company without a proven track record of profitability.
Technology stocks boomed during the pandemic, as investors targeted companies that could benefit from the stay-at-home economy. For the most part, the major players in social media have managed to turn those trends into improved earnings, with Facebook, Twitter, and Snap all beating year-over-year expectations.
Facebook is widely considered Snap’s key competitor, with both the flagship platform and subsidiary, Instagram, sporting a ”story” feature of similar function to SnapChat. There’s one key difference between the companies, though: Facebook is a revenue and earnings powerhouse, whereas Snap struggles to convert growth into profits. Even Twitter, a distant cousin in terms of platform function and utility, delivered positive earnings in both 2018 and 2019.
|Company||CY20 Revenue (billions)||CY20 Earnings Per Share||Market Cap (billions)||12-month Share Price Growth|
Snap’s market cap is 10.7% the size of Facebook’s, but it generates only 2.9% as much revenue as Facebook. More importantly, Snap has yet to prove its ability to generate positive earnings. Even Twitter has it beat for revenue, but Snap trades at a market cap almost double Twitter’s size!
On a multiples basis:
|Company||Earnings Multiple||Revenue Multiple|
Facebook’s earnings multiple currently trades at a similar level to the broader S&P 500. The stock might even be considered cheap, since it grew earnings 57% from $6.43 a share in 2019 to $10.09 in 2020. Snap has no earnings, but on a revenue basis it trades at a multiple almost four times higher than Facebook.
Snap managed to grow revenue 46%, but if it can’t make money, then the business has questionable investment prospects over the long term. And while the amount has fluctuated from year to year, Snap consistently posts bottom-line losses:
Sometimes when a company trades at a valuation much higher than fundamentals warrant, it could be a sign that investors see an underlying growth story. But if Snap is turning things around, that trend doesn’t appear in the numbers enough to justify its recent share price growth.
In future Snap earnings reports, both daily active users and revenue per user must continue growing to help flip the company’s negative free cash flow into positive territory.
This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.