Snap breaks out: How the ‘camera company’ found its groove during the pandemic

Published Thu, Apr 15 20211:29 PM EDT

Key Points

Snap shares have soared during the past six months as investors have come to believe in the company's plan to continue to grow its ads business.
Still, some analysts worry that Snap's growth during the pandemic may be fully baked in the stock price.
Key leadership changes and increased focus on a young audience have turned Snap into a rare late-blooming success story — at least for the moment.

A little more than four years ago, Snap Inc. became a public company. On its first day of trading — March 2, 2017 — Snap jumped 44%, closing the day at $24.48 per share. The next day, shares jumped again, reaching $29.44 per share during intraday trading. It would be nearly three and a half years before the company saw its stock price hit that level again. But Snap has surged since last fall. Shares are up about 125% since Oct. 20, the day before its third-quarter earnings. Today, Snap has a market capitalization of about $96 billion. In late December 2018, it was worth $6 billion. What's happened is the story of a company being ready for a transition that has been seen as a fait accompli but has only just started to occur. Snap's ascension can be linked to a broad-based, global transition to digital advertising. "What we saw was companies that may have come to Snap in two, three, or five years accelerated plans during the pandemic," said John Egbert, an equity analyst at Stifel. "The story of Snap is a lot like the story of Facebook," he said. "It took Facebook a while to monetize mobile, and it has taken time for Snap to build an advertising platform that's appealing to smaller businesses." For investors, the important question is whether the company will maintain these new valuation levels as Covid-19 subsides. With so many new businesses trying to advertise on Snap for the first time during the pandemic, it's possible growth will slow as the surge dies down. "We think multiple expansion in 2020 was aided by unusually low interest rates and outsized growth in a down economy," said Bank of America analyst Justin Post. "As conditions normalize, further multiple expansion is unlikely." Or, Snap may be prepared for years of robust growth. "Snap is in a position to grow revenue 50% to 60% for years, especially when you look at growth in users and monetization opportunities," said LightShed analyst Rich Greenfield said. "They are just starting to enter small businesses. We are big long-term believers." A slow upward march While Snap's ascension may resemble Facebook's conquering of mobile advertising, the path toward higher values has been different for the two social media companies. Three years after Facebook went public, its shares were trading about 150% higher. The same can't be said for Snap. In Snap's first earnings release as a publicly traded company, the social media company revealed it had lost $2.2 billion ($2 billion of which related to stock compensation). The company said its number of daily users had increased to 166 million in the first quarter — up 36% from the first quarter of 2016 but down from 53% growth from a year earlier. In 2017 and 2018, Snap struggled with decelerating user growth, compounded by a misguided effort in November 2017 to cater to users 34 and older and a redesign in early 2018 that consumers hated . Snap's aggregate user base shrunk from 191 million users in May 2018 to 186 million in October 2018 amid competition from Instagram's Stories . TikTok's massive growth also put pressure on the stock, according to Greenfield. Snap seemed as if it may be headed toward the dreaded "zombie state" of publicly traded companies: functional enough to keep going, but never generating the type of growth to give investors a reason to buy shares. Turnaround begins Snap made a number of key executive hires that would stabilize the company in 2018. It selected Derek Andersen as vice president of finance from Amazon in June 2018. He was later elevated to CFO . Snap poached from Amazon again in October 2018, naming Jeremi Gorman , head of global advertising sales at the e-commerce giant, to serve as Snap's chief business officer. That same month, the company hired Jared Grusd, previously CEO of The Huffington Post, as Snap's chief strategy officer. By Jan. 2019, Snap had lost $20 billion of market value since its initial public offering. With the company's share price trading below $10, Snap abandoned its effort to cater to a broad audience. Instead, CEO Evan Spiegel renewed the company's focus on young users. Further, Snap began to mature its advertising business, especially around augmented reality. When the pandemic sent global ad budgets to a halt, Snap wowed investors in April 2020 with its still-growing ad revenue. Snap calls itself a camera company . However, its focus on proprietary advertising technology, rather than hardware , has given investors a new jolt of faith. "The company's first signs of real momentum was right before Covid shut everything down," said Stifel's Egbert. "You saw it in the first quarter 2020 numbers." Opportunistic advertising strategy Snap's revenue that quarter, which primarily comes from advertising , was $462 million, up more than 44% from the $320 million the company reported in the first quarter of 2019. Snap maintained growth in the face of shutdowns because it largely relied on deeper-pocketed , large advertisers, instead of the smaller, harder-hit businesses that make up a huge part of the ads businesses of Google and Facebook. More than half of Snap's ad dollars were coming from performance-oriented, or direct-response advertising, which proved to be more resilient than other forms of advertising during the pandemic. Direct response advertising includes methods that drive consumers to take an immediate action, such as downloading an app or buying something from an e-commerce site. That compares with brand advertising, which communicates what a company is about or what it does, rather than trying to drive immediate sales. During the pandemic, performance-oriented advertising budgets provided companies with better return on investment when those firms cut back brand spend. Snap also differentiated itself with the types of advertising it was offering. With people stuck at home, Snap offered augmented reality for virtual "try-ons" at a time when many retailers closed their dressing rooms. Beauty company Sally Hansen in August rolled out a Snapchat lens to allow users to try out different nail colors. Champs Sports offered virtual try-ons of its sneakers. Dior unveiled its own B27 sneaker via an augmented reality lens on Snapchat. Snap expanded its "dynamic" ad offering that allowed retailers to upload a product catalog. the company's technology recommends items to relevant users. If a product's price or availability changed, the ads automatically update in real time. Brands used that functionality to deal with wide-ranging state-by-state re-openings during the 2020 summer. Spiegel said in February that the company sees opportunity in the e-commerce space, which he said has been driven by "utilitarian benefits such as price, selection and convenience." "Improvements in the shopping experience to make it more entertaining and immersive can lead to powerful downstream results in terms of conversion," Spiegel said. "We plan to experiment rapidly and plant many seeds because we see this opportunity as very large and still very early in terms of maturity despite the massive step change in adoption due to the global pandemic." E-commerce's takeover Snap's long-term investment thesis revolves around the staying power of e-commerce, even as brick-and-mortar shopping revives. Americans spent $791.7 billion during 2020 on e-commerce, up 32.4% from 2019, according to data published by the U.S. Census Bureau in February. "I think the biggest indicator that we are not going to go back in time and drop all those behaviors is because in other countries that are kind of over that tipping point, it's just continuing to accelerate," Lauren Hanrahan, CEO of Zenith USA said in early March . When Snap said on its investor day in late February that it was on track for several years of 50% growth, shares jumped . Still, investors should be cautious around how much Apple's upcoming privacy changes will impact Snap. Some analysts believe the company will be among the most affected firms. Then again, Wells Fargo noted in February that though the Apple changes are a point of uncertainty, measurement challenges might drive deeper advertiser engagement with Snap. With people of all ages stuck at home last year, Snap's user growth accelerated. The company boasts 265 million daily active users worldwide . Small businesses: The next frontier Snap's playbook for major growth will likely rely in part on its ability to attract more small and medium-sized businesses, which are the bread and butter of Google and Facebook's ads businesses. For instance, Snap's "Map" screen, which allows users to see where friends are and share current locations, is a future driver of small business advertising. Though Snap Map has millions of business place listings already, the company views the function as an eventual entryway for small and medium-sized business advertisers. "Overlaying local businesses on a map is a serious commercial opportunity," said Egbert of Stifel. "Snap has a real opportunity to age up as teenagers become young adults. As their tools are taken more seriously, they can still make inroads with older first-time users." While Snap still commands a tiny piece of the U.S. digital ad market, it's also possible the company may have already penetrated its "super-fan" user base, given its years in the market, said Laura Martin, an analyst at Needham & Co. That will put pressure on Snap to boost average revenue per user — which could lead to annoying its core audience. "Snap says it has 80% to 90% of 13- to 24-year-olds, and 60% to 75% of 13- to 34-year-olds in its largest revenue markets," said Martin. "Its 50% revenue growth rate must come predominantly from driving rapidly increasing monetization per user, which may: a) not be possible; or b) irritate its users enough to drive disconnects and/or slow adoption by new users." The overall lesson for shareholders may be one that not all investors love: With Snap, patience is key. "We really just try to create value with our community—and then, over time, think about converting that to a business," Spiegel said during his company's 2020 fourth-quarter earnings conference call. WATCH: Pinterest and Snap downgraded: Trading the reopening