Social media and technology company Snap (SNAP 4.32%) has reported financial results two times so far in 2024. The first time, the stock was absolutely hammered as investors worried about its growth. The second time, the stock skyrocketed as the company reported growth that surpassed expectations. The net result is that returns for Snap stock are basically flat year to date.
Over the last five years, returns for Snap stock have been basically flat, as well. As of this writing, shares only trade 7% higher than they did five years ago. By comparison, the S&P 500 is up almost 90% during this time.
What about the next five years? There are reasons to believe that Snap could impress investors. However, there's one problem that should be acknowledged.
Why Snap could do better over the next five years
When it comes to growth (an important factor for stocks), Snap has continued to put up strong numbers in certain areas. One of the most important areas of growth is the user base for its Snapchat app. In the first quarter of 2024, it had 422 million daily active users, which was up 10% year over year.
There's also growth in Snap's subscription product, Snapchat+. During the first quarter of 2023, the company surpassed 3 million paying subscribers for the first time. During Q1, it went over 9 million subscribers, which is an extraordinary adoption rate.
More users on Snapchat equates to a bigger opportunity for Snap to display ads and generate revenue. But it's also useful if there are more paying subscribers because it's a more predictable revenue stream.
Regarding its paying subscribers, Snap has attracted Snapchat+ users at a surprisingly strong pace. This base of users just tripled in a single year, so it's reasonable to believe this is still an ongoing growth opportunity.
Now let's look at Snap's free users, which are monetized with ads. This could be a coiled spring for the company.
Over the past couple of years, the company's user base has increased, but ad rates have dropped. This is measured with something called effective cost per mille (eCPM). The drop in the prices advertisers have been paying Snap has largely canceled out its user growth, as seen in its growth rate on the chart below.
SNAP Revenue (Quarterly YoY Growth) data by YCharts.
The chart above also shows that Snap's revenue growth has accelerated recently because its eCPM jumped 8% year over year in Q1. In other words, advertising prices are finally increasing again. And since the company has a far larger user base than it had before, it's having a big impact on financial results.
Snap's management believes the improvement is due to its technology upgrades. In other words, this isn't merely a broad ad recovery -- advertisers are increasingly attracted to the Snapchat platform because of what it offers. If management is correct, that's huge.
From a price-to-sales (P/S) ratio perspective, Snap stock trades at one of its cheapest valuations ever because investors' expectations have come way down. But if its tech has improved enough to ignite robust demand from advertisers, growth could far surpass expectations in the coming years, offering investors a more attractive entry point today.
SNAP PS Ratio data by YCharts.
In summary, Snap stock is only up 7% over the last five years. But the next five years could be much better because the valuation is much better, its user base is growing, and advertising demand could go higher.
One challenge to overcome
Snap has a net loss of nearly $1.3 billion over the last 12 months. To be fair, today's profits aren't as important as future profits for investors, and this is why investing is tough.
Aesop famously talked about trading a bird in the hand (what you have now) for two birds in the bush (what you could have in the future). But as famous investor Warren Buffett said, "How certain are you that there are indeed birds in the bush?"
In other words, is Snap doomed for big losses perpetually, or will its profits surge in the coming years? Here are some thoughts.
Snap's net loss is from an accounting perspective. From a cash-flow perspective, things are better. In Q1, the company had cash from operations of $88 million, which is encouraging. Maybe there are birds in the bushes.
That said, Snap's Q1 operating cash flow was down 42% year over year, even though revenue was up 21%, showing just how inconsistent cash flow can be for this company.
In closing, Snap has grown a lot and could still grow more. But as it's grown, management hasn't demonstrated consistent operating leverage to turn a profit, leaving investors to wonder what's in the bush.
If Snap generates positive cash flow consistently over the next five years as revenue grows, then I believe the stock will do well. But it's hard to bet on this right now because of past inconsistencies.
