Snap – Macro maelstrom

Snap has further to fall.

• Snap is laying off 20% of its workforce in order to stem the negative cash flow in a sure sign that Snap thinks that this downturn is not going to be short-lived.
• At the same time, HP reported Q2 2022 revenues that declined YoY as a result of weak demand that it also expected to continue given that it also cut its expectations for the full year.
• These are two of many technology companies that are seeing weakening demand and are cutting jobs which remains completely at odds with recent macro data.
• Here, the number of job openings in the USA has remained very robust at 11.2m and consumer confidence has jumped to 103.2 from 95.3 that was published in July.
• I suspect that a significant element in the consumer confidence number has been the fall in petrol (gasoline) price which has been front and centre of both consumer consciousness and media coverage.
• When it comes to jobs, although many companies have announced layoffs, these take time to implement and so the job openings data can be quite delayed in its representation of what is happening in the economy.
• This has given the Federal Reserve the confidence to continue increasing interest rates which I expect to peak somewhat above 3% before the impact becomes apparent in the macro data.
• It is at this point, that I expect that the Federal Reserve will back down and go back to quantitative easing accepting that sustained CPI at 7-9% is the lesser of two evils.
• The other evil of course would be to take the fight to inflation with real interest rates which would require the Fed to increase rates to around 9% which would completely collapse the economy given how indebted it has become.
• Against this backdrop, the economy looks certain to tip into stagflation which is why even the technology companies with plenty of cash on their balance sheet are making cuts.
• Snap has over $4.8bn ($1bn of net cash) on its balance sheet meaning that it could easily sustain a period of substantial cash outflow caused by overstaffing if it had confidence that this was a blip.
• The fact that it has chosen to make cuts indicates that it has no idea when its end markets will turn around and also brings into question its commitment to the Metaverse.
• Snap’s speciality is augmented reality, but this remains many years from mass market take-off (if ever) and Snap’s ability to keep investing in it is fast eroding as its bread and butter of digital advertising weakens.
• Even Meta Platforms is questioning its ability to lose $14bn at Reality Labs this year as it is reducing its subsidisation of the Quest 2 by $100 and has also slowed hiring.
• The net result is that investments across the industry in the Metaverse are likely to slow considerably during this period which may in turn delay the launch of devices that are good enough to underpin mass market adoption.
• The outlook for Snap still looks very difficult with an EV of $15bn and 2022 and 2023 revenues likely to be around the $4bn mark.
• This puts it on an EV / sales multiple of 3.8x which is high for a company that makes no money and loses cash from operations.
• Hence, I think it has further to fall and would not consider it before it hits an EV / Sales of 2.0x.