That went well.

On their first public day of trading, shares of Snap (NYSE:SNAP) soared 44% relative to the $17 IPO price to close out the day at $24.48. With 1.16 billion total shares outstanding across three different share classes, that puts Snap's total market cap at $28.4 billion. If you were to compare that valuation with the $405 million in revenue, that translates into a price-to-sales (P/S) ratio of 71.

Building with Snap Spectacles Bot banner

Image source: Snap.

That's an insane valuation ratio for Snap to sport right out of the gate, far higher than what social media peers garnered when they went public a few years back. Both Facebook and Twitter (NYSE:TWTR) went public right around 25 to 26 times sales, so at least by this metric, Snap is close to three times as expensive in terms of valuation.

With great valuation comes great responsibility (and expectations)

Snap has now completed a successful offering, raising $2.5 billion for itself that will immediately bolster the balance sheet (the remaining $935 million associated with the offering went to selling shareholders like insiders and early investors), and delivering immediate gains for investors that were able to buy in at the offer price. First-day performance is often how IPOs are judged, since suffering losses on the first day relative to the offer price doesn't inspire confidence.

It's also worth pointing out that Snap is already worth 2.5 Twitters; the microblogging service currently has a market cap of just $11.2 billion. That's despite the fact that Snap lost more money on a smaller revenue base than Twitter in 2016. This may be the best illustration of the valuation discrepancy that Snap is now enjoying.

2016 Income Statement




$2.5 billion

$404.5 million

Total costs and expenses

$2.9 billion

$924.9 million

Operating loss

($440.8 million)

($520.4 million)

Net loss

($456.9 million)

($514.6 million)

Data source: SEC filings.

Comparing Snap's financial performance to Twitter's is especially relevant given similarities in the user bases. Snap is already seeing user growth decelerate sequentially, easily the most important weakness that has dogged Twitter for its entire public life.

Twitter, revisited?

There is a distinct possibility that Snap will echo Twitter's first few years on the market. Namely, it may perform horrendously for public investors in subsequent years related directly to an overhyped IPO.

There are two specific, albeit somewhat obvious, investing lessons to glean from Twitter. First is that user metrics are incredibly important to gauge the operations of social media companies. Second is that beyond user metrics, how a company executes or fails to execute in building a complex ad business that delivers value to advertisers will determine if it can actually monetize those users in a way that delivers financial results for investors.

Twitter has largely underperformed in both departments. User growth began stagnating years ago, and Twitter's ad-targeting capabilities leave much to be desired. Ad targeting is built on user data, but since much of Twitter's total audience includes public users that have not logged in, its ability to collect user data is diminished.

Snap is quite new to the advertising business, only recently rolling out its automated ad sales API just a few months ago. Given the ephemeral nature of Snapchat, it's not clear how much user data Snap can collect and how well this data will contribute to ad targeting. One thing remains true: Snap has its work cut out for it if it hopes to live up to lofty expectations.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis -- even one of our own -- helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.