Can this US tech stock come up smiling?

1st June 2022 06:58

by Rodney Hobson from interactive investor

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An update from this company has spooked investors. Our overseas investing expert asks whether the social media star needs a more realistic outlook.

We have moved on a long way since the tech stocks boom and bust that marked the millennium but investors have just received a timely warning that what goes up into the stratosphere can plunge back down to earth just as sharply.

Snap (NYSE:SNAP), parent company of the social media platform Snapchat, has spooked investors in a wide range of IT companies with a profit warning that came out of the blue. The shares promptly slumped a remarkable 43% in one day.

It is a sign of how rapidly events have deteriorated that Snapshot now admits that it will fail to reach even the bottom level of its own quarterly forecasts for revenue and profits made only a month ago.

Revenue had been forecast to grow at 20-25% in the April-June quarter, with adjusted earnings showing at least breakeven and possibly as much as $50 million. Perhaps wisely, management has this time refrained from revealing specific figures but we must assume that a loss will be recorded. Snap is running fast just to stand still.

Another reasonable assumption is that figures have deteriorated considerably during May, a trend that is likely to continue in June, given that issues raised in the latest update have, if anything, become more severe. Analysts have been downgrading their forecasts.

Snapchat enables users to post photographs and videos. It claims 332 million active daily users but even that large number can disappear over time. It is particularly popular among teenagers, the generation that is most computer-savvy and therefore able to switch to other digital platforms at will.

The company blamed a decline in the strength of the wider market, pointing to rising inflation, higher interest rates, supply chain shortages and the war in Ukraine. This is a warning for all investors in tech stocks, although it is worth remembering that managements tend to place the blame elsewhere rather than accept responsibility for their own failings or to concede that their product is inferior to whatever else is on offer.

Source: interactive investor. Past performance is not a guide to future performance.

Management remains convinced that more users can be attracted and that it will earn more per user. The big danger is that this could be wishful thinking and that a more realistic attitude is needed.

Snap makes most of its money from placing advertisements on Snapchat and it has been particularly affected by changes in Apple (NASDAQ:AAPL)’s privacy policy, which have made it more difficult to target adverts and measure their success. Yet targeting those who are most likely to respond is the whole point of digital advertising.

Seen as the present and future of advertising, it looked to be a bottomless pit as paper-based media declined but the greater the riches, the more people pile in.

This is a highly crowded market with so many ways that computer and mobile phone users can communicate with each other in subtly different ways: Zoom (NASDAQ:ZM), Facebook (Meta (NASDAQ:FB), Instagram, Twitter (NYSE:TWTR) and more. Big names of the day can disappear rapidly. Who now uses Skype? Who can still remember Friends Reunited?

Snap shares shot up from $10 in March 2020 to a peak of $83 just 18 months later but a fall back to $15, the level the shares were at five years ago, has been if anything even more precipitous. There is no dividend and the prospect of there ever being one to underpin the share price is as remote as ever.

Hobson’s choice: the risks are just too great, so stay well clear. If you are an unfortunate, long-suffering shareholder who failed to get out while the going was good, it is not too late to bite the bullet and sell. It is hard to see the shares soaring again any time soon.

Rodney Hobson is a freelance contributor and not a direct employee of interactive investor.

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