Social App Pivoting – July 2019
SECTION 1: SNAP – Fundamental Analysis
1A. SNAP’s Bad Streak Coming to an End
Snap has seen remarkable volatility in its stock price this year, down 80 percent from its peak in March of 2017 at $29 to a low of $5 in December of 2018. The stock is currently trading in the $15 range, at time of writing.
Previously, in August of 2018, I had a sell recommendation on Snap. I am changing this to a buy
recommendation due to a few key reasons. For one, Snap should report higher than usual user growth, which has become known to the market. Secondly, Snap is extending its monetization methods and this is not widely known to the market. The increase in user growth should be reported in Q2 and the new monetization method should take effect by Q3.
Background:
Snapchat is one of the best platforms for Millennials and Gen Z audiences. The company reaches between 75% to 90% of people aged 13 to 35. The issue that Snapchat has faced is flat to declining daily active users (DAU) and monthly active users (MAU). Overall, the company does not report enough growth to command a social network multiple.
Revenue growth and profit margins have been problematic for Snap. The most recent quarter showed an improved gross profit margin of about 36%, however, in the quarters following the IPO, Snap reported negative gross profit.
The company switched to selling ads programmatically through software algorithms instead of through salespeople – this led to lower ad prices and resulted in lower revenue. Snap also had a redesign that halted Snapchat’s user growth.
2A. App Sessions Skyrocketing
Snapchat’s new gender-swapping filter has been extremely popular and this should show up in the earnings results for Q2 2019. Downloads and sessions have surged causing Snapchat to rank #4 overall in China’s App Store, its highest rank there in more than four years.
According to app intelligence provider, Adam Blacker of Apptopia, Snapchat had its most downloads ever dating back to January 1st, 2015 at 2 million compared to the average daily downloads of 665,000. As Apptopia has noted, retention will need to be proven, with retention likely higher for Snapchat Games than Snapchat filters.
Regardless of retention, the surge in user activity will be a welcome relief for investors.
Predictably, this app activity placed Snapchat as the number one downloaded app in the United States for the first time since March of 2017. We will be monitoring this intelligence closely to see if Snapchat places in the top spot for June of 2019, as this would indicate further additional strength in the stock’s key metrics for the upcoming quarter.
3A. Average Revenue Per User
Snap’s average revenue per user (ARPU) is on an upward trend. This helped cause the stock rally we saw in the past few quarters.
4A. Audience Network
Less widely known to the market is Snap’s plans to monetize its Millennial data across other mobile applications. Snap will no longer be confined to monetizing the 190 million users on the platform, and instead, will use the data to broker ads across various mobile applications. This will have a parabolic effect on the company’s average revenue per user (ARPU).
Audience Network is a software development kit (SDK) that allows advertisers to use Snapchat data to reach audiences outside of Snap on the applications that install the software. The flat daily active users (DAU) growth on Snap will become less important as Snap will effectively broker ads to a scalable audience outside of the native Snap application. Full-screen, vertical video ads will appear across third-party mobile applications.
Snap has data on a lucrative demographic that few companies have ownership of, as both Facebook and Twitter are out of favor with this age group. Snap’s Audience Network will open up the ability to reach the Millennial and Gen Z audience segments across a much larger total addressable market.
The product was announced on April 4th, however, the company will now need to sign up application developers and advertisers before the revenue shows up in quarterly results. The formal launch will occur later this year.
Conclusion: Buy recommendation on Snap with price target of $17-$23
Catalyst: Audience Network should not be underestimated. Facebook launched an Audience Network in 2014 when the average revenue per user (ARPU) hovered around $12 in the United States. Audience Network was the turning point for Facebook’s ARPU reaching the $26 we see today in the United States region. The market is preparing for renewed user growth from Snap in the current quarter, however, Audience Network is what will cause the stock to climb and is still relatively unknown to the broader market.
SECTION 2: SNAP – Technical Analysis
Technical Analysis provided by Knox Ridley
Background:
Snap is out of favor with a tarnished sentiment – and for good reason based on a string of bad earnings and questionable management decisions in 2018. As mentioned in the fundamental analysis, the stock was down 80 percent from its peak in March of 2017 at $29 to a low of $5 in December of 2018.
However, Snap currently is in a quiet and strong uptrend. We do not think the market will ignore Snap for long, and we believe their next earnings report could be a turning point. Regardless of the upcoming earnings, we want to enter Snap before Audience Network goes live and becomes public knowledge.
The technicals of Snap are strong, as it just confirmed an inverse Head and Shoulders pattern by breaking the $14.47 neckline, then re-testing that support, and trending upward from there. Holding for 6-18 months will be important to let Audience Network take effect, while keeping a close eye on privacy laws. Because of this time frame, we can get a clear picture of Snap’s price pattern on the daily chart – below.
2B: Technical Overview
Using the RSI to measure Snap’s internal strength, Snap is clearly in a bullish position (holding above 65). However, you’ll notice that the buying pressure is starting to falter. This is evident in how the RSI is making lower highs while the price of Snap is making higher highs. This is Negative Divergence, with a sign of weakening buying pressure, and could signal a short term draw down. As long as Snap does not break below 60 on the RSI, it will remain in a strong bullish position.
Regarding the price pattern of Snap, we can a see a classic Inverse Head and Shoulder pattern, outlined in blue, that was recently confirmed once Snap broke above the neckline around $14.47. This is a bullish pattern that has played out. As long as Snap can hold the $14 support, the stock has the potential to trend higher to the $20-$23 range.
If the RSI breaks 50 and then moves below 43, which has recently been a strong ceiling for Snap once it enters a sustained downtrend, we will be looking to our stops to exit our position, or add more depending on the price action. However, in a market environment like the one we have, where we see a divergence between the upwards price of the broad market and the decelerating data in the economy, using stops is highly suggested. This will allow you to lower risk while investing in the remaining upside of this bull market.
2C: Elliot Wave Analysis
With limited price data due to Snap’s IPO in 2017, we’ll use this data as a rough guide to Snap’s general direction. It appears as though we are finishing an impulsive 5 waves up in a Wave (1) of (5). This is very bullish for the intermediate to long term for Snap, while being bearish in the short term. The question remains: how far will the Wave (2) retrace take us? As long as the broad market cooperates, and based on the current strength of Snap’s price action this year, a large retrace is not anticipated. The green box indicates the most likely target if Snap cannot break the $17 range. Above $17, and the Wave (2) retrace will be moved significantly up, making our current entry much safer.
Conclusion:
The line in the sand will be $14. Below $14, and we will likely see the green box come into play. On other hand, above $17 and our next level of pullback will likely be around the $20-$23 range, before taking us higher. Keep in mind that Snap is a volatile stock, so we will set a wide stop to give it room to breathe; however, we do not want to get caught up in a major market downturn, so our stop will allow us to play the upside, while avoid any severe losses. We recommend a 25-35% trailing stop.
Please note: The I/O Fund conducts research and draws conclusions for the Fund’s positions. We then share that information with our readers. This is not a guarantee of a stock’s performance. Please consult your personal financial advisor before buying any stock in the companies mentioned in this analysis.