Snap Investors Should Fear What Happened to Shake Shack

 | Mar 03, 2017 | 11:00 AM EST
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Buyer beware, new Snap  (SNAP) investor.  

Shares of the secretive social media (I refuse to call it a camera company, as the prospectus describes it) exploded 44% on its first day of trading, as investors flocked to a company that they apparently believe will be the hottest thing in tech since Facebook (FB) . Personally, I don't get the allure of Snap as an investment -- in large part because the company has next to no moat around its business.

Further, I thought what Abercrombie & Fitch's (ANF) CEO Fran Horowitz told me in an interview Thursday about Snap was very insightful -- about how companies could easily migrate away from the platform to the next hottest thing. That is especially the case when considering that companies still can't measure if sales and profits are being lifted by paying to have unique marketing experiences on Snapchat. 

Here is our exchange:

TheStreet: Have to ask in light of all the discussion around the Snap IPO. How does Abercrombie use Snapchat as a sales driver?

Horowitz: Currently, I think Snapchat is more of a marketing opportunity for us. Take Hollister. Brand sentiment and engagement is very important for the Hollister consumer. So we have seen tremendous engagement through our use of Snapchat. Our takeover on Snapchat for National Pizza Day got over 6 million views. So, we need to be wherever our consumer is, whenever they are there.

TheStreet: Have sales picked up from using Snapchat? Can you even measure that?

Horowitz: You cannot measure that directly at this point in time.

All of these little nuances to the story have me thinking about whether Snap shares could go the way of Shake Shack (SHAK) , which went public in late 2015. SHAK shares more than doubled in their first day of trading on Jan. 30, 2015. Since then, shares have plunged by about 24%, despite stellar financial performances. There are a host of considerations one must keep in mind when it comes to Snap, as a newly minted public company -- especially seeing as the company has never turned a profit and isn't exactly forthcoming with details on its future.

These are three things that happened at Shake Shack that could happen to Snap:

1. Strong financials are never good enough.

All Shake Shack has done since its IPO is report eye-popping sales and profit gains. Yet, Wall Street has sold the news, as there is this constant skepticism on whether Shake Shack could maintain its growth. In effect, Wall Street is looking beyond Shake Shack's strong results today since it was priced in at the time of the IPO. The same thing could certainly develop at Snap -- and this is perhaps more likely than with Shake Shack, because its business model is highly unproven. Wall Street will demand perfectly run earnings calls, mind-blowing revenue gains, surges in users (user growth has slowed) and clear evidence that profits aren't too far off into the distance.

I am not sure if Snap will be ready to hop on the phone three months from now and deliver any of this stuff.

2. Insider selling comes in waves. 

There has been a steady stream of insider selling at Shake Shack since the restrictions lifted. That has served as an overhang to the stock, too. To be sure, the same thing is all but inevitable at Snap, due to its hearty welcome to public markets. Venture capitalists will want to bank some profits to invest in other tech upstarts. Employees could sell stock to bank riches -- after all, they don't want to be left holding the bag, like many a folk at Twitter (TWTR)

Strong insider selling isn't something Snap has to worry about right now, but no doubt it will become an issue over the next year. 

3. The appetite for talent is a challenge. 

I recently chatted with someone who shared the serious salary inflation going on right now for coders at a well-known tech company. Not only are salaries going rampant and keeping the bottom line under pressure, but it's hard to find people (which only increases how much it costs to pay these coders). Shake Shack obviously doesn't need coders, but what it's finding is that in order to support its ambitious growth, it needs to pay managers even more. It also takes pride in paying restaurant-level workers much more than minimum wage to support its hospitality minded business model.   

The same thing will play out at Snapchat (if it's not doing so already, judging by its pressured bottom line). To fuel the growth Wall Street has priced in, Snap will have to go on a hiring spree. And to nab the top people it needs, it will have to pay a pretty penny. Indeed it's a vicious circle. 

Facebook is a holding in Jim Cramer's Action Alerts PLUS Charitable Trust Portfolio. Want to be alerted before Cramer buys or sells FB? Learn more now.

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