Snap facing ‘a lot of competitive risks,’ strategist says

Evercore ISI Senior Managing Director & Head of Internet Research Mark Mahaney joins Yahoo Finance Live to discuss Snap earnings, ad revenue growth, daily active users, and the outlook for Snap.

Video Transcript

RACHELLE AKUFFO: SNAP in focus this morning after reporting mixed earnings. According to its CEO, the flat year-over-year growth reflected the rapid deceleration in the company's digital ad growth. Joining us now to break it down is Mark Mahaney, Evercore ISI Senior Managing Director Head of Internet Research. Good to have you join us this morning, Mark.

And we know, obviously, ad spend front and center for a lot of investors at the moment. In terms of this wider tightening on ad spending, how much of the issues when it comes to SNAP are SNAP-specific?

MARK MAHANEY: OK, that's the right question, Rachelle. But there's clearly a lot of-- there's clearly softening in overall advertising spend, whether it's offline or online. And that pace of softening seems to have accelerated. Microsoft talked about that too on their earnings call, and they account for about $10 to $11 billion in ad revenue. So that was a very chunky data point. And their guidance implied acceleration in that deceleration-- or accelerating decline, accelerating deceleration in the growth rate.

So softening is continuing into the March quarter. That's exactly what we heard from SNAP last night. So there's a lot of stuff here that's macro. But there are things that are also SNAP-specific. This company is trying to do a redo of some of its ad platforms to counter the impact on its advertising efficacy from the Apple privacy changes. There's also a lot of competitive risk that SNAP's facing.

Their daily average users, that growth is starting to slow down a little bit. So that could be the impact-- ongoing impact from TikTok and maybe YouTube Shorts. So the answer to your question is it's both. There's macro and company-specific factors.

RACHELLE AKUFFO: And as we look at some of those changes, especially with its direct response business when it comes to ads, I mean, that's really been a lot of bread and butter for SNAP here. How is it going to really maintain its competitive edge here? And for those who don't know, this is-- those ads when they come up is an immediate call to action to buy something or sign up for something.

MARK MAHANEY: And that's really been the power alley of internet advertising-- direct response advertising. There's some channels in the internet that are good for brand advertising. Netflix is building out one. But generally, the bread and butter, the power alley for internet advertising has been direct response advertising.

Because, historically, it's been so well-- it's been so measurable and you could, in real time, adjust campaigns. So there's a wonderful efficiency associated with it. Some of that was undermined by the Apple privacy changes. But a lot of it's still intact.

The issue for SNAP is that there are other companies that do this. There's two in particular that are really large in the space. One's called Google and one's called Meta, or Facebook, Instagram. And so SNAP's always had this problem like some of the other platforms like Pinterest and, historically, a Twitter, where they're not a primary ad buy. They're a secondary or maybe even a tertiary ad buy.

And if you're going into an advertising recession, what you're going to see is a lot of marketers consolidate that spend to just the one or two platforms. In good times, you diversify your spend. In bad times, you concentrate it. So it just kind of adds to the pressure on SNAP's fundamentals today. And that's why they're likely to show a year-over-year decline in ad revenue in the March quarter.

RACHELLE AKUFFO: And we did see some downgrades, including from UBS today. But you've kept an in-line rating here and also have a price target-- lowered your price target from $14 to $12. Talk about why you have still this in-line rating for them.

MARK MAHANEY: Well, the stock's trading at around three times EV to sales, enterprise value to sales. That's sort of the trough level it's been at. And so what you have to ask yourself as an investor is, do you think things are going to get materially worse? Multiple will go down if fundamentals get materially worse. They are correlated.

I'm not-- our sense is that we're going to see kind of a macro recovery in online ad spend later in '23. And I think that a lot of the changes that are going on now at SNAP that are near-term undermining their direct response to advertising, but I think can long-term help those trends.

I think they're doing-- they're retraining their algorithms and using artificial intelligence too-- kind of like what Meta is doing, except that Meta has just got so many more resources and started doing this more aggressively call it six or nine months ago. So they're ahead of the curve where SNAP's behind the curve-- but there is a curve.

And so on the other side of that curve, didn't ruin the analogy, I think you could see SNAP's fundamentals recover. So that's why I kind of want to stick to the sidelines on it. I don't think-- I don't think it's a sell here. But it's not a buy either. I think you have at least got a couple of quarters before you could consider being constructive on the name.

RACHELLE AKUFFO: And in terms of what you liked in the earnings report, what else stood out to you?

MARK MAHANEY: Frankly, not much. This was mostly a negative report. But there is this new asset-- somewhat newer asset, it's called Spotlight. So for all the SNAP users out there, they know what I'm talking about. There's-- it's kind of like their TikTok offering.

So if you're on the screen far right, and you get a lot of short form video. And it can be highly entertaining, addictive-- like most short form video platforms, TikTok, Reels, YouTube Shorts. But it's a nice integration.

And this is one of those-- you look for those opportunities that companies have assets that they under-monetize because it's a new revenue growth opportunity. Spotlight is one of those. They have very little ads, very little ad intensity in there.

But there's no reason why over time they can't better monetize that. So I think that's kind of one nice little area. Then Snapchat also has a subscription service that I think has got about 2 million users. I don't know how big that gets, but it's a nice diversification of the business model a little bit away from advertising. I think those are two kind of modest positives you could have seen through all the gloom last night.

RACHELLE AKUFFO: And as you mentioned, Meta and Google, obviously, with Instagram Reels and the YouTube Shorts here-- how does-- how does SNAP, then, position itself in that conversation when you already do have these heavy-hitters? Like, what room does that leave in terms of a competitive edge for SNAP?

MARK MAHANEY: Well, Rachelle, you're asking a good question. And arguably, it's a very bearish question, which is, what's really special about SNAP? What is special about Snap is this demographic hold that they have. And it's something like 70% of 13 to 24-year-olds in a couple of dozen countries are on SNAP.

So it's very popular with younger users-- primarily for messaging. I've got a bunch of teenagers at home, and they use SNAP. And that's how they communicate. They don't text like you and I do, Rachelle, or maybe email. They chat with each other.

So there's a very strong demographic appeal. And so for marketers that want to pitch products to that particular demographic, SNAP gives you that. And they've got pretty good reach. They've got well over 300 million daily average users-- not monthly, but daily.

So they have a very engaged, very tightly defined demographic. So for some marketers, I think they could be a very attractive end market. And also, I want to give SNAP credit-- they've been generally very good at product innovation over the years. And I think that's one of the reasons why they get a very strong-- very good positioning with this demographic and they still have one of the best user growth profiles out there amongst the social media assets.