With Snap's (SNAP +0.17%) forthcoming IPO promising to be the biggest tech debut this year, investors are scrutinizing the company very carefully to determine if the social media startup is worth their investing dollars. Investors already know that total revenue last year was just over $400 million, and the pressure is on to grow that top line given the continued losses that the company is posting.
According to Business Insider, Goldman Sachs is estimating that revenue could jump to $2 billion by 2018, which would be driven in part by daily active users (DAUs) growing to 221 million as well as continued scaling of ad sales. It's worth noting that Goldman has not officially put out these estimates quite yet, as it is a lead underwriter in the offering and as such is subject to a quiet period. Technically, Goldman should have a Chinese wall between its research and investment banking divisions, but this wouldn't be the first time that the prominent investment bank has at least appeared to be a little biased.
Snapchat logo. Image source: Snap.
Gross profit in sight?
If Snap is able to grow its top line to $2 billion over the course of the next two years, which would represent a compound annual growth rate (CAGR) of over 120%, that could potentially help justify the lofty valuation that Snap is looking at. However, another key consideration will be how much of that actually flows through to the bottom line, or if Snap will continue spending heavily to drive growth.
Hitting $2 billion in sales will require both user growth and significant increases in monetization. While Snap calculates its average revenue per user (ARPU) slightly differently than its peers, it generated just $1.05 in ARPU in the fourth quarter on a global basis. Like its peers, monetization is much stronger in the U.S. (North America ARPU was $2.15 in the fourth quarter), so it makes sense for Snap to focus primarily on growing its domestic ad business in the immediate term before turning its attention to international markets. North America comprised nearly 90% of total revenue in the fourth quarter.
Scaling revenue is also critically important considering the company's unique cloud infrastructure strategy, where it relies entirely on third-party cloud infrastructure vendors and has committed to massive spending over the next five years. Purchasing cloud services was precisely why Snap posted a negative gross profit in 2016, since these costs totaled more than ad sales. Snap has already committed to spending a total of $525 million in 2018 on cloud infrastructure services between its two primary vendors, so being able to grow revenue in excess of this commitment will be key to achieving profitability. Of course, those spending commitments are just minimums, and Snap may need to spend more depending on how the service itself grows over that time frame.
