Weekly Insight: What Is an IPO & What Is Snapchat?

The parent company of Snapchat “went public” last week. What does that mean? It means that anyone can now buy shares and become a part owner of the company. An Initial Public Offering (IPO) accomplishes a few things:

  1. Provides additional funds for a company to expand (capital)
  2. Gives early investors in a private company the chance to sell shares (liquidity)
  3. Gives the public a chance to buy shares
  4. Establishes a valuation for the company based on the free market (supply and demand for shares)

Snapchat claims to be a “camera” company according to its website. I find this interesting because I always thought of it as a social media company, and every picture I have ever seen on Snapchat was taken with a smartphone (not made by Snapchat). However, Snap Inc. recently released its first camera product, Snap Spectacles, which are sunglasses with a built-in video recorder. I have to admit that seems pretty cool. Snap Spectacles cost $130 and enable you to record up to 30 seconds directly from the “Sunglasses.” Sorry, privacy advocates . Nevertheless, Snapchat is very popular with pre-teens, teenagers, and college students. This is an attractive and hard to reach demographic for advertisers, which may explain the success of the company and its IPO.  

I recently heard an entrepreneur say that if you want to be hugely successful, just find a big problem and offer a solution. Apparently, there was a problem whereby teenagers had too much time on their hands. They needed a time-sucking app for their phones that enabled them to make goofy pictures and send messages that disappear after a certain number of seconds. They can even save “their story,” which is several pictures and short videos to show their friends what they have been up to for the previous 24 hours. The disappearing text/photo messages are popular among teenagers so that nosey parents can’t look through their children’s phones to find “evidence” of what’s going on in their lives. Anyway, this must have been a big problem because after the first day of trading, Snap Inc. was valued at over $37 billion.

Chloe Kisner and friend Emily

That seemed crazy to a lot of people. It meant that the company was more highly valued than Target Corporation, which has more than 150 times as much revenue and earned $2.67 billion in 2016, while Snapchat is still losing money. The valuation was also higher than that of CBS, American Airlines, Waste Management, and dozens of other household names. The stock price has come back down about 30% in the past couple of days, after surging 59% in the first day of trading. This type of price volatility is not uncommon shortly after a company goes public. Buying shares in an IPO is speculative. Many times, retail investors are dying to get in on an IPO. Sometimes IPOs are associated with huge first-day gains; other times, they flop. The average first day price gain of IPOs since the 1960s has been around 19%. However, individual investors rarely benefit because institutional investors typically are the only ones who have access to the stock at the offering price. Most of a stock’s first-day gains have already been made by the time the general public can buy the stock.

Sadly, most stocks do not do too well after the first day of trading. Dr. Jay Ritter from the University of Florida found that the average three-year return of a stock after its IPO lagged similar stocks by 7.2% per year over the subsequent 3-year period.

What’s the bottom line? Prudent advice would be to avoid investing in IPOs and check out Snapchat if you have some time to kill. Hopefully, you will not spend as much time as the average of Snapchat’s 100+ million daily users (25-30 minutes per day)!

Want more? Check out this Infographic: How much time is spent on social media. Have a great week.

Robert has over 16 years of experience in managing assets for institutions, professional athletes, small business owners and high net worth investors. He is an alumnus of the Wharton School at the University of Pennsylvania graduating from the Wharton Advanced Management Program (AMP) and has been a Wharton Fellow since 2011.
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