The most anticipated social media IPO since Twitter is now upon us. Snapchat, or the newly dubbed Snap, Inc., went public last month. So, let’s find out how the company stacks up against the last two major social media initial public offering (IPOs): Twitter and Facebook. First, however, let’s look at what happens when a stock goes public.
When a company sets it’s IPO price, this is the indication of interest from the bankers that will be selling this to the public. However, the does not mean that is the price a person will get. Usually, the number of shares sold to the public are a small fraction of the available shares, and as we learned in high school economics, as supply goes down, demand goes up. So, many people are fighting over the small amount of shares, bumping the price, sometimes as much as 100% higher than the original price before the public can even get their hands on the shares.
What happens in the next several months is even more illuminating. I took a look at several major social media IPOs (Facebook, Twitter, LinkedIn, and Yelp) and what happened to their stock prices within the first six months of trading. Every single one of these companies had a precipitous drop from their early month highs, each LOSING MORE THAN 40% OF THEIR VALUE. Why does this happen? Well, here are some reasons that contribute to this:
1. Intense hype and speculation around a name of a company that everyone knows
2. People may think that their familiarity with a company translates into a good stock, which is not necessarily the case
3. Most companies have a six month “lockup period” where the insiders of the company cannot sell their shares. When that expires, many more shares come on the market
• Again, as we learned in economics, more supply = less demand —> so stock plummets
4. Insiders, like employees and private investors want to lock in some of their profits, so they sell they shares
So, we must be very careful with IPOs. As a firm, we have a policy that we do not buy them for our clients because of these alarming trends.
Now, going back to our comparison, let’s see how Snap stacks up against Facebook and Twitter. Below is a table describing how the three companies were valued before they went public:
• Revenue - $3.7 billion
• Profit - $1 billion
• Valuation as a multiple of revenue - 28 times
• Total company valuation - $104 billion
• Revenue - $317 million
• Loss - $134 million (these losses reported were only for 9 months pre-IPO)
• Valuation as a multiple of revenue - 44 times
• Total company valuation - $14 billion
• Revenue - $400 million
• Loss - $373 million
• Valuation as a multiple of revenue - 55 times
• Total company valuation - $22 billion
As you can see from the table above, the IPO market is getting more and more speculative, dishing out higher valuations for companies with wider losses. The people who benefit from this are the people who were already on the inside. THE PUBLIC DOES NOT BENEFIT FROM HIGHER VALUATIONS. Inherently, there is more risk with these companies because they must make enormous improvements to their balance sheets in order to justify their valuation. I believe that Snap is going to be a very hard pill for investors to swallow. Their numbers simply don’t make sense for investors.
But, some people may ask, what if Snap the next Facebook? Facebook has proven that, even though their IPO hurt them, they have become one of the most successful companies on earth now. Twitter, on the other hand, has proven to be one of the most mismanaged companies. So, the question remains, is Snap the next Facebook or Twitter?
I would venture to say that Snap is more like Twitter than it is Facebook. They have a “cool app” that people like to use. I believe, like Twitter, it is a niche product and will not gain the critical mass that Facebook has. Also, whatever you can do on Snap now, you can do on Instagram (a Facebook-owned company). I also don’t believe that their management is as strong as the visionary leadership of Mark Zuckerberg and his amazing COO Sheryl Sandberg. I simply don’t see how they make this company revolutionary like Facebook was/is and I don't know how they turn their accelerating losses into future profits any time soon.
By Ayal Shmilovich
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which course of action may be appropriate for you, consult your financial advisor. No strategy assures success or protects against loss.
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