Snap's (SNAP 0.78%) stock price plunged 17% on April 28 after the social media company posted a disappointing first-quarter earnings report. Its revenue fell 7% year over year to $989 million, which missed analysts' estimates by $21 million and marked its first revenue decline since its public debut in 2017.

Its adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA) plummeted 99% to $813 million, but its adjusted earnings per share (EPS) of $0.01 still exceeded analysts' expectations by $0.02. On a generally accepted accounting principles (GAAP) basis, it slightly narrowed its net loss from $360 million to $329 million.

Those headline numbers were grim, but could Snap's stock be worth buying as a turnaround play at a near-50% discount to its initial public offering (IPO) price? Let's review its near-term problems, its longer-term plans, and its valuations to decide.

Two friends take a selfie together.

Image source: Getty Images.

Why did Snap's stock drop below its IPO price?

Snap faced three headwinds over the past year. First, Apple's privacy changes on iOS, which enabled its users to opt out of data-tracking features for individual apps, disrupted Snapchat's ability to craft targeted ads from third-party data. Second, the macro headwinds curbed the broader growth of the advertising market. That slowdown can also be seen in the latest numbers from Meta Platforms (META -1.38%) and Alphabet (GOOG 1.44%) (GOOGL 1.89%).

Lastly, Snapchat has been losing ground to ByteDance's TikTok. According to Piper Sandler's latest semi-annual Taking Stock with Teens survey, 37% of U.S. teens named TikTok as their favorite social media platform, compared to 28% who chose Snapchat and 23% who stuck with Meta's Instagram. Snapchat's expansion of its own short-video platform Spotlight doesn't seem to be halting TikTok's advance.

Did Snap's situation improve in the first quarter?

Snapchat's daily active users (DAUs) still grew 15% year over year to 383 million in the first quarter of 2023, but its DAU growth has gradually decelerated over the past year. Meanwhile, its average revenue per user (ARPU) dropped 19% -- representing its fourth consecutive quarter of declining ARPU -- and offset its growth in DAUs.

Metric

Q1 2022

Q2 2022

Q3 2022

Q4 2022

Q1 2023

DAU Growth (YOY)

18%

18%

19%

17%

15%

ARPU Growth (YOY)

17%

(4%)

(11%)

(15%)

(19%)

Revenue Growth (YOY)

38%

13%

6%

0%

(7%)

Data source: Snap. YOY = Year over year.

Three issues are reducing Snap's ARPU. First, it's relying more on overseas users, who generate lower ARPU than North American users, to drive Snapchat's DAU growth. Its North American DAUs have stayed flat sequentially at 100 million for the past three quarters, yet they still generated nearly four times as much ARPU as its European users and more than six times as much ARPU as its "Rest of World" users in the first quarter.

Second, it upgraded its advertising algorithms to counter Apple's privacy changes, gather more first-party data, and drive more click-through conversions. Those abrupt changes further throttled its near-term ad sales, which had already been challenged by the macro headwinds and stiff competition from TikTok and Instagram.

Lastly, Snap continues to drive its users toward Spotlight, which experienced a 170% year-over-year jump in total time spent consuming content in the first quarter. But based on Meta's recent challenges with Reels, those short videos are likely tougher to monetize than its traditional ads.

As Snap's growth slows down, it's ramping up its spending to update its advertising tools and roll out new augmented-reality Spotlight and Snap Map features. As a result, its adjusted EBITDA margin dropped from 15% in 2021 to 8% in 2022, then plunged to nearly zero in the first quarter of 2023.

Snap didn't provide any revenue and adjusted EBITDA guidance for the second quarter. But during the conference call, CFO Derek Andersen said while the "macro environment appears to have stabilized," Snapchat's growth would still be "impacted by the platform policy changes and the tough competitive environment." Andersen also noted that the slower recovery of some of its larger advertisers would continue to generate headwinds.

Snap's stock isn't a screaming bargain yet

Analysts expect Snap's revenue and adjusted EPS to rise 2% and 41%, respectively, this year. But based on those estimates, which might be too bullish, Snap doesn't look cheap at 4 times this year's sales and 36 times forward earnings.

Meta and Alphabet, which are both expected to generate stronger sales growth at higher operating margins than Snap this year, trade at 24 and 19 times forward earnings, respectively. Both companies also seem to face milder near-term headwinds than Snap, which could struggle to stay relevant as its younger users shuffle to TikTok and other platforms.

Simply put, Snap's stock could still easily be cut in half again if its latest advertising changes fail to revive its ARPU growth. Investors should avoid its battered stock and stick with more reliable advertising plays like Meta or Alphabet.