Snap's Friday Rally Is Misguided

 | Sep 14, 2018 | 10:57 AM EDT
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Anyone who buys into Snap's (SNAP) uptick today would be sorely mistaken. Nothing has changed within the fundamentals of this business that will create long term bull potential.

Snap's shares jumped 3.1% as of 10:53 a.m. in New York.

Let's not forget, this is still the company that loses money quarter after quarter. This is still the company that is suffering from an inability to create user growth. And this is still the company that struggles to gain an audience outside of the teenage demographic. The long term potential just isn't there. Could they get bought out? It's always a possibility, but the appeal doesn't make sense to me. Who wants to buy an app with a limited user base? This stuff is all about advertising, and the app's total model limits how many users and advertisements can be offered.

As this record low, a rally makes sense. But rather than a buying opportunity, I view this as a shorting opportunity. The company is still burning over $350 million a quarter, despite successfully driving gross incomes up 82% in the second quarter to $53.79 million. Yes, that's a huge discrepancy between operating income and expenses being incurred to drive that income. Putting together a diluted loss of $0.27 per share in Q2, this stock has very little reason to go up.

Let's not forget that entire social media segment is suffering in the markets. Facebook (FB) has taken huge hits in not only public confidence, but user growth rates as well. The stock has given up a ton of market capital, and it's a security creating actual profits! Twitter (TWTR) has created growth, but still struggles to make big moves in terms of profits and percentage rate growth in users. The stock is also down through the past few weeks. How is Snap, with its miniscule, not to mention declining, user base supposed to produce a meaningful uptrend in its stock price?

How can you create long term revenue potential if your user base is declining? Yes, Snap boasted revenue growth in Q2, but one has to imagine that advertisers will be less and less inclined to pony up money if the company isn't able to demonstrate a rising consumer base to market to. The company blamed a poor redesign, and that may very well be true. But a poor redesign indicates that management doesn't know what to do to create meaningful growth. Furthermore, the pitiful comparison between gross income being created, and the large expenses being incurred to create that growth demonstrate that Snap is heading for more losses in the second half of the year.

I've written before about how the cash situation is not good, despite the cash infusion from Saudi Arabia. They have a lot of capital on the balance sheet, but most of it was not in the form of cash. To that end, I think the company will be implementing dilutive financing to raise capital around January. They had $393 million at the end of the third quarter; and $250 million coming from the fascinating Saudi Arabia deal. I'm conservatively betting that they keep losing money in Q3 and Q4; and that the numbers will still be between $250 million to $300 million. You can do the math, but barring taking cash from short term investments and taking on debt, I think they'll need to raise money through stock. That will be very bad for Snap's already weak share price.

I've seen some very vague chatter on platforms like Twitter discussing Google (GOOGL) or Apple (AAPL) buying Snap. Anything's possible, but I can't find any credible info behind it, and I don't know why either of those names would pay $11.76 billion to buy out the firm. If this thing really tanks to say $2 a share, people might start shopping; but I think an acquisition would be a foolish move. Snap is constantly competing against Facebook's juggernaut Instagram. Instagram has basically copied Snapchat's model and done it better. With over a billion users, it's clear that Snap has lost the battle. To that end, I'm skeptical that any smart company would pour money into a losing endeavor with tough competition to boot.

In my view, this stock is definitely going down further in the coming months. This small rally doesn't mean much.

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