Is Snap Stock a Buy Now?

Snap‘s (NYSE: SNAP) stock surged 28% on April 26 in response to its first-quarter earnings report. The social media company’s revenue rose 21% year over year to $1.19 billion, exceeding analysts’ estimates by $74 million, as its adjusted earnings tripled to $0.03 per share and cleared the consensus forecast by $0.08.

Snap’s headline numbers looked healthy, but its stock remains more than 10% below its IPO price from 2017. Is it finally the right time to buy this out-of-favor stock?

Why did Snap’s stock drop below its IPO price?

Snap’s revenue growth stalled out in the first half of 2023 as it faced three challenges. First, Apple‘s (NASDAQ: AAPL) iOS update made it harder for Snapchat to craft targeted ads from third-party data. Second, it faced intense competition from ByteDance’s TikTok and Meta Platforms‘ (NASDAQ: META) Instagram.

Lastly, the macro headwinds drove many companies to rein in their ad spending. That impact was the worst in North America, where its growth in daily active users (DAUs) decelerated and its average revenue per user (ARPU) declined. That slowdown spooked the bulls because its North American DAUs generated much higher revenues than its overseas DAUs.

Is Snap overcoming those challenges?

But despite those challenges, Snap’s revenue started climbing again in the second half of 2023 and returned to double-digit growth in the first quarter of 2024. It also continued to gain more DAUs and grow its ARPU again in the first quarter.

Data source: Snap. YOY = Year-over-year.

Snapchat ended the first quarter with 422 million DAUs. Its DAUs in North America dipped 1% year over year to 100 million but rose 4% to 96 million in Europe and grew 19% to 226 million across the rest of the world.

Snap further offset its sluggish DAU growth in North America by boosting the region’s ARPU by 17% year over year — which marked its second consecutive quarter of growth and an acceleration from its 2% ARPU growth in the fourth quarter. That growth was driven by its Direct Response ads, which leverage more first-party data to counter Apple’s iOS changes, new ad-tracking tools like Snap Pixel, and the expansion of its Spotlight short-video platform to tackle TikTok and Meta’s Reels.

Its ARPU in Europe increased 20% year over year in the first quarter, accelerating from its 5% growth in the fourth quarter and marking its third consecutive quarter of year-over-year growth. The region’s ad sales gradually stabilized after being temporarily throttled by Russia’s invasion of Ukraine in 2022. Its ARPU in the rest of the world grew 13% year over year — compared with a 7% decline in the fourth quarter of 2023 — as it recovered from the initial impact of the Israel-Hamas War.

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For the second quarter, Snap expects its DAUs to grow 9% year over year to 431 million as its revenue rises 15%-18%. Analysts expect its revenue to rise 16% for the full year.

What about its margin and earnings growth?

Snap’s top-line growth is stabilizing, but it’s still unprofitable based on generally accepted accounting principles (GAAP). However, its operating margin improved slightly year over year in the first quarter, while its adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA) stayed positive over the past three quarters.

Data source: Snap.

For the second quarter, Snap expects to generate $15 million to $45 million in adjusted EBITDA, which would represent a midpoint adjusted EBITDA margin of 2.4%. During the conference call, CFO Derek Andersen attributed that sequential decline to its “modest incremental investments in infrastructure, personnel, and marketing.” But for the full year, analysts expect Snap’s adjusted EBITDA margin to more than double, from 3.5% in 2023 to 8.1% in 2024.

Is Snap undervalued relative to its growth potential?

Snap ended the first quarter with a negative trailing-12-month free cash flow of $31 million. But during the conference call, CEO Evan Spiegel said its latest cost-cutting measures, including hundreds of layoffs, have “cleared a path” toward generating “meaningful adjusted EBITDA profitability and positive free cash flow” over the long term. It also still had $2.9 billion in cash and cash equivalents, so its coffers won’t run dry anytime soon.

Snap still isn’t a screaming bargain at 56 times this year’s adjusted EBITDA. Meta, which is growing at a faster rate and is firmly profitable on a GAAP basis, trades at just 11 times this year’s adjusted EBITDA.

Snap is taking some steps in the right direction, but it won’t become a compelling investment unless it narrows its losses and improves its free cash flow. So for now, I think it’s smarter to stick with leaders like Meta instead of underdogs like Snap.

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Randi Zuckerberg, a former director of market development and spokeswoman for Facebook and sister to Meta Platforms CEO Mark Zuckerberg, is a member of The Motley Fool’s board of directors. Leo Sun has positions in Apple and Meta Platforms. The Motley Fool has positions in and recommends Apple and Meta Platforms. The Motley Fool has a disclosure policy.

Is Snap Stock a Buy Now? was originally published by The Motley Fool