It's here! The hotly anticipated initial public offering document for Snapchat parent company Snap Inc. landed, and we dug in with highlights and charts. Bloomberg News has reported Snapchat might be looking for a valuation of $25 billion, which would be a heady market value for a six-year-old company:
Another Word About Cost of Revenue: I wrote earlier that Snapchat is in the unusual position of having its cost of revenue -- in Snapchat's case, mostly computer horsepower for all those snaps and stories from its users -- exceed its revenue in 2016. Snapchat is unique in this regard compared with other internet companies. It pays for server costs from Google's cloud-computing operation, which makes the financial burden of every snap and story hit the company's expense line even before the company can generate ad revenue from them.
The cost of revenue for Snapchat did come down in the second half of 2016, giving the company barely positive gross margin percentage -- that is, the share of revenue left over after Snapchat paid for computing resources and shared revenue with some of the people and companies that post on Snapchat.
A Canyon to Facebook: Facebook generates on average $62 from each user in North America, while Snapchat generated about $5.64 last year from each of its North American users. That is the essence of Snapchat's pitch to investors: Its advertising business is just getting started and has plenty of room to close the gap with Facebook. On the other hand, Facebook is one of the savviest digital advertising companies in the world. Snapchat has not yet proved the viability or technical chops of its ad business.
A Hiccup in User Growth: The number of Snapchat's daily active users has been climbing rapidly. But the growth rate experienced a hiccup in the second half of the year. It reached 158 million daily active users in the fourth quarter of 2016, up just 3 percent from the third quarter.
Snapchat said that the growth slowdown was due in part to new app updates in mid-2016, "which introduced a number of technical issues that diminished the performance of our application." It is not a great sign that the growth rate slowed, and it raises questions about whether Snapchat has been hurt by Facebook's efforts to clone aspects of Snapchat in its Instagram app. Facebook says its clone, Instagram Stories, has more than 150 million daily users. That is close to Snapchat's user number.
Where the Money Is: It's a good news-bad news scenario for Snapchat. About 43 percent of its daily users are in North America. It helps Snapchat that most of its users are concentrated in the biggest market for advertising in the world. The downside is Snapchat's concentration in North America may limit its user growth and its advertising potential. The fastest-growing advertising markets are places like Argentina, the Philippines and India, according to ZenithOptimedia.
Young vs. Even Younger: Snapchat is going public relatively young, at least by current standards of tech companies. Last year, the median tech company that went public in the U.S. was 10 years from its founding, according to research by University of Florida professor Jay Ritter. Snapchat is less than six years old.
And its business is also smaller than that of its peers at the point they went public. In the 12 months before Facebook 2012 initial public offering, it had $4 billion in revenue. Twitter had $534.5 million in revenue in the 12 months ended Sept. 2013 before its IPO. Snapchat had $404.5 million in revenue for 2016, likely the last period of financials it will disclose if it goes public this quarter, as planned. And the scale of Snapchat's losses is staggering, at $520 million in 2016. (Yes, that is not a typo. Its operating loss was wider than its revenue.)
No Founder Letter? Blame Sergey and Larry. The founders of Google wrote an open letter explaining the company's mission as part of the company's 2004 IPO filing. It started a Silicon Valley trend. Now it's not uncommon to see such manifestos in IPO documents, but Snapchat co-founder and CEO Evan Spiegel didn't pen one for his company. I've read many of these letters, and we're probably all better off for the omission.
Here are some of the opening lines from the IPO letters of other technology companies. Please do not compare them to the opening lines of "A Tale of Two Cities."
Mark Zuckerberg, 2012: "Facebook was not originally created to be a company. It was built to accomplish a social mission -- to make the world more open and connected."
Larry Page and Sergey Brin, 2004: "Google is not a conventional company. We do not intend to become one."
Mark Pincus, Zynga, 2011: "I’m proud and excited to be writing this letter to you today. ... We founded Zynga in 2007 with the mission of connecting the world through games. We believed play -- like search, share and shop -- would become one of the core activities on the internet."
Founders and CEO of Pure Storage, 2015: "Most storage companies are beginning to use flash memory to try to deliver higher performance data storage. At Pure, we are transforming the storage industry."
Revenue: As expected, Snapchat grew insanely fast after it started selling advertising two years ago. The company's revenue soared from $59 million in 2015 to $404.5 million last year. That is almost even with estimates from research firm eMarketer, which in September estimated Snapchat's revenue at $59 million for 2015 and $367 million for 2016.
You know who else had rapid revenue growth as a young company? Facebook Inc. So did Groupon Inc. Past success is no guarantee of future performance. And Snapchat is wildly, impossibly unprofitable -- even by the standards of a young internet company. Somehow its cost of revenue for 2016 -- that is, the cost to make its product -- was more than its revenue for 2016. That seems to make it nearly impossible for Snapchat to turn a profit in the foreseeable future.
Number of Users: Snapchat disclosed 158 million people use the app every day. For comparison, Facebook had 483 million daily active users when it filed to go public in 2012 and has 1.2 billion now.
Snapchat is disclosing only a figure for daily users of its app. Many internet companies, including Facebook, Twitter and YouTube, release a monthly user count instead of, or in addition to, daily users. That makes it hard to compare Snapchat's popularity with that of other internet companies, which compete with Snapchat for advertising dollars.
The company's choice of metric is no accident. Snapchat is trying to stress that while it may never have huge numbers of users -- it can't possibly compare to Facebook's nearly 2 billion monthly users -- it will have a smaller but more devoted fan base that uses Snapchat avidly. Advertisers tend to want to reach a large audience, so it will be interesting to see if IPO investors are swayed by the quality-over-quantity argument.
Hunger for Fresh Blood: One reason for all the excitement about Snapchat: There have been few IPOs in the last couple of years, and even fewer technology IPOs, which tend to appeal to investors because of the promise of rapid revenue growth. And there have been even fewer of the high-profile types of internet companies like Snapchat. The last big initial public offering from the tech elite was Alibaba in 2014.
This column does not necessarily reflect the opinion of Bloomberg LP and its owners.
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