Competition, Price Multiples Lead to Caution By TipRanks

Snap (NYSE:) is a camera application company in the United States.

The company has a flagship product that enables users to communicate through short videos and images. I am bearish on the stock. (See SNAP stock charts on TipRanks)

Performance

Snapchat stock has gained an enormous 204.3% over the past year, and Goldman Sachs (NYSE:) believes the stock could reach the $90 handle.

Goldman cites user growth, ad price inflation, and innovation in core advertising as the key value drivers.

The Stock’s Priced In

What needs to be considered is the possibility of the stock already being priced in. Snap’s trailing price to sales (32.5) and EV/Sales (24.9) multiples are way out of sync.

At 116% year-over-year revenue growth, multiples can be irrelevant, but Snap’s struggling with its profit margins, as it’s yet to turn in an operating profit.

Other factors that could dent the stock’s prospects are the increase in its weighted average cost of capital, and its proposed $1-billion convertible note offering.

Snap will need to provide value to shareholders eventually. Growth stocks were pumped up during the early stages of the pandemic, and if liquidity has to leave the market, stocks with inflated valuations like Snap might be the first to suffer.

Industry Concentration and Competition

Snap being a single-product company means that its industry concentration is high, which causes significant unsystematic risk.

Stiff competition from Facebook (NASDAQ:) means that Snap will need to continue burning a significant amount of cash to sustain its top-line growth.

Facebook’s mimicking of Snapchat’s key features, and its penetration of the AR advertising market, could cause considerable concern to Snap.

Wall Street’s Take & Final Word

Wall Street thinks Snap is a Moderate Buy, with the only Sell rating coming from Jason Bazinet of Citigroup (NYSE:). The average SNAP price target of $87.17 implies 18.2% upside potential.

Snap is a great company, but the stock is overpriced. Top-line growth only buys time for so long before investors start demanding profitability.

Although margins are considerably better than they used to be, Snap is unlikely to become profitable any time soon, as it needs to continue spending a considerable amount of cash to fend off competition.

Finally, it’s evident that its valuation multiples are overcooked, and the rising cost of capital isn’t much of a cause for enthusiasm.

Disclosure: At the time of publication, Steve Gray Booyens did not have a position in any of the securities mentioned in this article.

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