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Snap: Victim Of Profitless Stock Disappointment, But For How Long?

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It’s one thing to lower guidance; it’s another thing to be barely profitable or outright unprofitable and lower guidance. Of course, it’s been bad enough to be a tech stock in one or the other camp in this market environment, but as some companies have found out, Snap (NYSE:SNAP) now included, the share drawdowns can be massive when both are accomplished. But with the worst out there, can Snap start working toward business fundamentals and share price recovery? The short answer is yes, but it may not be until Q3, as further downward revisions are likely to come.

The story starts with Snap’s Q1 earnings call, where it couched, hedged, and gave otherwise painful color to its Q2 guidance. It outlined in great detail just how uncertain the macroenvironment is and how unsure management is about what’s to come during the quarter. This is pretty rare even in good market conditions and really unheard of in shaky market conditions like the one we’re in. Most companies have passed on issuing guidance when it’s at this level of uncertainty. But seeing the commentary in its entirety is needed to do it justice:

On the revenue side, forward-looking visibility is as difficult today or perhaps more difficult than at any point in recent memory. While the 116% revenue growth we experienced in Q2 of the prior year makes the comparisons more difficult this quarter, we believe the bigger challenge to forward-looking visibility is the uncertain operating environment. The macro headwinds we observed in Q1, including supply chain disruptions, labor shortages, inflationary pressures, and the impact of rising interest rates on the overall economic environment, remains challenged as we enter Q2. We believe the impact of the war in Ukraine on input cost, marketing budgets and overall economic confidence has been significant and that it is difficult to predict its impact on a forward-looking basis.

Given the uncertainty caused by these challenging circumstances, we have opted to share that our growth rate thus far in Q2 is approximately 30% year-over-year or just below the approximately 32% growth rate we observed following the invasion of Ukraine in Q1. That said, we are concerned that the operating environment ahead could be even more challenging, leading to further campaign pauses or advertiser budget reductions. As I noted earlier, our prior year comparisons are more difficult in Q2 than in Q1.

Given this, we believe that revenue guidance of 20% to 25% year-over-year revenue growth in Q2 is reasonable.

-Derek Andersen, CFO, Snap’s Q1 Earnings Call

The company was throwing investors a bone, severely hedging the 20%-25% Q2 revenue guide. Again, it’s fair; it’s a challenging environment. But, what didn’t help was throwing it out the window a month later when CEO Evan Spiegel attended JPMorgan’s 50th Annual Global Technology, Media and Communications Conference on May 23rd. There he was asked about the macro environment and shared this:

Well, the macroeconomic environment has definitely deteriorated further and faster than we expected when we issued our guidance for the second quarter. So even though our revenue continues to grow year-over-year in the second quarter, it’s likely that revenue and EBITDA will come in below the low end of our guidance range.

That’s not good news to deliver casually at a conference. Accordingly, this update has undoubtedly reset stock expectations as the stock has dropped about 34% in the wake of the updated guidance.

Chart
Data by YCharts

The question now is, is this the business bottom for Snap, or is there more pain to come?

With the fog of the macroenvironment at its height, there isn’t a clear view of when it will lift. Businesses will need material evidence global events, inflation, and overall uncertainty will improve before committing new dollars to marketing. I expect the macro conditions will last into Q3 as the social media ad business will continue to struggle, affecting Snap disproportionately as it’s a lower-tier advertiser compared to Google (GOOG)(GOOGL) and Meta (FB). This means it will take longer for ad dollars to get committed back to Snap even after a more structured recovery takes place in the industry.

With this in mind, I’ve constructed estimates for the remainder of the year and have Q3 being the low. This is due to the headwinds mentioned above having a longer tail beyond Q2.

Snap's revenue and revenue growth chart estimated to Q4 '22

Snap’s revenue and revenue growth estimated to Q4 ’22 (Chart mine, data from Seeking Alpha’s earnings tab)

The next three quarter’s estimates I created are lower than the consensus for $1.15B, $1.28B, and $1.61B, respectively. I expect more downward revisions in the coming weeks from analysts, which may contribute to further pain in the stock, especially when Q3 and Q4 are revised downward.

Snap's Q2-Q4 2022 Revenue Consensus

Snap’s Q2-Q4 2022 revenue consensus (Seeking Alpha)

Snap’s ability to navigate iOS privacy changes better than its competitors is an advantage, shortening the ad-dollar curve a bit. Still, the bottom line is Snap is not a first dollar move for most medium-to-large-sized businesses. And since the company’s bottom line is not material and, in most cases, negative, the market will not grant it any multiple expansion for a few quarters. This is why the stock dropped dramatically on the news revenue will go from $1.2B at the 22.5% original midpoint to $1.13B at my new 15% growth estimate – a mere $73M difference. This market is not taking kindly to stocks without profits – first and foremost – and is punishing stocks presenting material downward revisions in growth when they are already unprofitable.

The balanced strategy would be to begin buying once revenue estimates stop getting cut. This may take until the Q2 earnings call to resolve, but keep an eye on the consensus up to the call and see if it gets as low or lower than my estimates.

Now, if the market stabilizes in the coming weeks or months, I may consider the chart moving sideways or turning around as a good indicator the market valuation floor is going to be higher than it has been, bringing with it the risk floor. This would signal the falling knife has stopped, and future bearish news is priced in. But, for now, I recommend being careful playing with a high-risk asset like Snap after its mistaken guide from just four weeks earlier. It could be the bottom, but the risk profile just increased two-fold. A nibble here and there may work if you’re looking to initiate a position, but I would be cautious on doubling down on the stock just yet.


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