Talk about a cold snap!
Snap's (SNAP 5.45%) management was downright frigid this winter, laying off hundreds of employees across its content, engineering, and advertising teams. Snap cut 7% of its global workforce in the last month alone, primarily focusing on engineering and sales. Ice cold!
The layoffs are likely tied to CEO Evan Spiegel's goal of reaching profitability by the end of the year. Chief Strategy Officer Imran Kahn said smaller teams will help Snap grow more quickly.
But for a company that's expected to grow revenue 60% this year, and that says product innovation is its only means of competing, cutting the sales and engineering teams doesn't add up.
Top strategic priorities
In an SEC filing following the March layoffs, Snap's management wrote that the cuts were made "to align resources around our top strategic priorities and to reflect structural changes in our business." Back in the third quarter, Spiegel told investors that Snap's 2018 priorities will be user growth, content, and augmented reality.
The company rolled out a new version of the Snapchat app last quarter, and it faced significant backlash from its user base. While Snap reported that the early users of the redesign became more engaged, it's not clear that's been the case with the broader rollout. In any case, the company might want a few extra engineers on hand to tweak a few things users are complaining about, else it risks posting disappointing user growth.
With regard to content, Snap laid off about two-dozen employees on the content team in January. The redesign has also discouraged many celebrities from using the app, as it makes it harder for users to find their content. Kylie Jenner notably sent the stock tumbling when she tweeted she no longer uses Snapchat.
Snap's focus on augmented reality also clashes with its layoffs in the engineering team. While Snap released the Lens Studio tool last year, which allows users to create their own augmented reality lenses, it still needs engineering and creative talent of its own to continue advancing its functionality.
There's a disconnect between the layoffs and the reason for them, and investors should look for answers in Snap's first-quarter earnings call.
Can Snap keep up the growth without more employees?
Snap is quickly shifting most of its ad buyers to its self-serve platform, which will theoretically enable its sales team to operate more efficiently. But Snap is still in growth mode, and the key to the self-serve platform is to attract a critical mass of advertisers. That requires a big sales team to bring on new advertisers and teach them the platform.
Snap sold over 90% of Snap Ads programmatically in the fourth quarter, which resulted in average ad prices declining 70% year over year. As it continues to expand ad inventory, average ad prices will continue to fall unless it's able to attract more advertisers to the platform. Management said the percentage of contested auctions on the self-serve platform grew sequentially in the fourth quarter, but it didn't give details about what that percentage is.
Growing by rapidly expanding ad inventory -- especially in the face of slower user growth -- is unsustainable long term. Investors want to see growth come from the demand side. When asked whether the 575% increase in ad impressions in the fourth quarter came from increased demand, Kahn dodged the question.
Investors certainly want to see the Snap sales team become more efficient, with the self-serve platform handling the majority of ad sales, but that doesn't mean workforce reductions are the key to getting that efficiency.
Snap's management should definitely increase its financial discipline compared to last year, but sacrificing its top priorities and potential revenue growth for improved profits is short-sighted. Snap's recent bout of layoffs went overboard on cutting costs.