Snap's [SNAP] share price is up a meteoric 169% this year in what CNBC has described as a ‘mega rally. Investor confidence seems to have been renewed in a stock that in December was trading at a 52-week low of $4.99. This is quite a turnaround seeing as Snap’s share price has collapsed 80% since going public in 2017. But after such a rally, there is a danger that the stock is now overvalued.
Why has Snap’s share price rallied?
Analysts, it seems, are beginning to come round to this idea that the company’s Snap Chat app is the go-to communication method for US teens. In this demographic, the platform outranks Facebook [FB] and Instagram for active users.
According to Mediakix, Snap Chat has 16.4 million teenage users in the US, beating both Instagram's 12.8 million and Facebook's 11.5 million. 83% of this audience use the Snap Chat platform at least once a month, making it a valuable tool for online advertisers.
Number of teenagers using Snap Chat in the US
Boosting confidence in the stock was Snap Chat’s gender swap filter going viral in May and the Yolo app hitting number 1 on the iOS download charts.
While Snap Chat’s 287 million active accounts might not match Facebook's 2.3 billion and WhatApps's 1.9 billion, if Snap can further monetise this audience, then traders might be tempted to pick up shares.
Goldman Sachs analysts seems convinced Snap can do this in a note on Friday:
“We believe product improvements and feature additions are driving positive trends in user growth and engagement that, along with monetization improvement from ad tech initiatives, should drive upside to consensus estimates.”
Cash flow problems
While users of Snap undoubtedly find it a useful product, the underlying business model is struggling to make money. Profit margin comes in at -92.94% and its EBITA is down hefty £-1.07 billion. Operating cash flow is another problem at $-524 million and vastly off-balance with the company’s $375 million debt pile.
Expectations are for Snap to continue to lose money for the next couple of years, even if it does manage to grow revenue. Forecasts are for $1.6 billion in revenue this year, ramping up to $2.1 billion by 2020.
|Operating margin (TTM)||-91.39%|
|Quarterly Revenue Growth (YoY)||38.90%|
Snap share price vitals, Yahoo Finance, 17 July 2019
What do analysts think?
Last week, Bank of America upped its price target for Snap $5 to $17 citing the improved revenue outlook, but kept its neutral rating for the stock.
“Overall we anticipate improving user trends and revenue upside in 2Q, though we expect Snap to remain conservative in its outlook,” Bank of America analyst Justin Post said in a note to investors.
“Overall we anticipate improving user trends and revenue upside in 2Q, though we expect Snap to remain conservative in its outlook” - Bank of America analyst Justin Post
Goldman Sachs also upped their price target on Snap last week, boosting their 12-month target to $18 from $13.
However, Bank of America’s neutral rating highlights analyst indecision on Snap. Of the 36 who follow the stock on Yahoo Finance, 20 rate the stock a "Hold', nine rate it as "Underperform." Only one analyst rates the stock a "Sell". Among those in favour of the stock, six rate it either a "Strong Buy" or a "Buy".
An average price target of $12.24 from analysts suggests that most consider the stock is overvalued. Hitting this target would see a 19% downside on the current share price, but that could be an opportunity for investors.
Time to snap up the stock?
Snap's $20 billion market cap could appear overvalued. What has been driving the mega-rally has been the increasing number of active users on the platform and social media prominence. Yet this doesn't necessarily translate into profits.
Should earnings start to align more closely with active users, then the sky high valuation - particularly relative to the company’s book - should come down. That would then make the stock a speculative bet that might pay off.