Is Snap A 'Lottery-Like' Stock?

Laura Martin of Needham calls Snap Inc SNAP, the parent company of Snapchat, a “lottery-like” stock as part of her initiation of the stock with an Underperform rating.

The bearish initiation comes as the shares of Snap fizzled out after a sensational debut. The new IPO, which was originally priced at $17.00, opened last Thursday at $24.00, reached $26.05 and closed at $24.48 on its inaugural trading day.

Justification For Thesis

Despite acknowledging Snap’s core demo is 13–34 year olds (an advertiser’s dream), strong user engagement and brand, Martin’s bearish thesis is based on the following factors:

1. “SNAP’s total addressable market (TAM) in is 80 percent smaller than Facebook Inc FB.”
2. “SNAP already has 50 percent penetration of its TAM in the US.”
3. “SNAP has no ability to prevent “fast followers” from stealing its best ideas.”
4. “Our $3.3 billion revenue estimate in 2019 requires SNAP to have a 14–16 percent share of Adjusted Mobile or Adjusted Digital Ad spending by 2019, up from 2 percent in 2016.”
5. “Even if SNAP grows revenue 8-fold to $3.3 billion by 2019, its share price would decline based on FB & GOOG EV/ Sales ratios.”
6. “No clear path to profitability before 2020.”
7. “The academic literature suggests poor first-year performance. We believe SNAP’s value is $19–23/share, down 15–32 percent.”

Snapchat Vs. Facebook

One of the biggest concerns of the analyst over Snap is Martin believes the company has nearly saturated its core demographic target audience in the United States. The company may need to add older people to its platform, which may not be tolerated by the existing 13–34 year olds.

Meanwhile, larger rival Facebook, along with Instagram, Messenger and WhatsApp, offers similar product features as Snap and that too with 1.2 billion DAUs (Daily Active Users). The Facebook’s DAU count represents 33 percent penetration of the 3.6 billion (eMarketer) total internet users globally.

“For growth investors, we believe SNAP’s trajectory of user growth should be shorter and about 1/5 as large as FB’s because SNAP’s TAM is closer to 650 million 13–34 year olds than FB’s,” Martin highlighted.

Martin expects Snap’s revenue at $1 billion in 2017, $2.3 billion in 2018 and $3.3 billion in 2019. To reach $3.3 billion revenues in 2019, the company has to generate 60 percent growth in average revenue per user per year, which would be challenging given its limited TAM.

The analyst also pointed that to reach the estimated 2019 sales of $3.3 billion, the company must garner $1 out of every $7 spent online, unless it can take dollars away from Facebook or Alphabet Inc GOOG GOOGL.

At last check, shares of Snap fell 7.25 percent to $25.12.

Related Link: The Road Ahead For Snap: What Does It Mean To Be A Camera Company?

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Image Credit: By Maurizio Pesce from Milan, Italia - Snapchat, CC BY 2.0, via Wikimedia Commons