Investors love Snap Inc (NYSE:SNAP). After the stock price surged over 44% in its New York Stock Exchange debut Thursday, it climbed another 11% on Friday to end at $27.09 with a market value of nearly $30 billion. But is the company open for a short or is it a long-term hold?
Snap roadshow was a hit foreshadowing the IPO
After losing $500 million in 2016 and faced with corporate governance challenges — shareholders will generally not have voting rights and co-founder and CEO Evan Spiegel and co-founder and CTO Robert Murphy own a total of 40% of Snap’s market cap and 89% of the voting rights — investors nonetheless snapped up the shares. The concept of democracy apparently isn’t in vogue, but one trend — tech IPO investors having early valuations in excess of actual profits — remains.
Snap had a strong revenue generation year in 2016, improving sales 7 times to bring in $405 million. This could be one reason Snaps roadshow to institutional investors was reported to have attracted such strong interest. the Snap offering came to market with a bang amid record stock market highs, post-election optimism and little supply of IPOs coming to market.
“With the lack of recent exciting IPOs and SNAP’s IPO a constant media topic, we expect that demand for this IPO will be high,” Ihor Dusaniwsky, Head of Research, S3 Partners, said in a note to clients. “There is a strong chance that the initial IPO rally will continue into a follow-up rally, which will spur even more short demand.”
Investors could be eying Facebook, valued at $400 billion, or Google, at $600 billion, and think Snap has a similar long runway ahead. Those legendary tech firms could also provide a challenge by adopting Snap’s technology and muting their growth.
Can the technology actually generate profits? Or is this an emotionally driven market?
“Clearly, the Snap (IPO) is representative of a frothy environment,” Heritage Capital Chief Investment Officer Paul Schatz told the Fox Business News show “Wall Street Week,” calling it “almost garbage” as he expressed concerns over potential competition to emerge and questioned their revenue path. What Schatz didn’t much analize was the democracy angle.
Snap is asking investors to give up accountability rights and lock-in their relationship status
Democracy can be messy and inefficient, no doubt. But Snap investors seem to think a company run without accountability to shareholders isn’t an issue and should be locked into a relationship that could get abusive without checks and balances.
Snap co-founders are hoping to convince investors that they not having a voice in the company isn’t a bad thing. And they want 25% of IPO buyers to agree to an extended lock-up period of one year, just to make sure they don’t get jumpy. Such efforts are designed at reduce stock selling, which impacts market liquidity.
Dusaniwsky, for his part, looks at recent tech IPOs and relates it to the Snap liquidity. “
Stock borrow availability will be tight initially and stock borrow fees should start around the 25% fee range,” he wrote. He thinks if settlement issues emerge early on in the IPO process, stock availability will be limited in lending programs for short selling and borrow rates could increase. “If, as expected, SNAP’s stock price rallies, short demand would increase in tandem and short interest would quickly climb to 25% of the initial offering – pushing total short interest well above the $1 billion mark, and stock borrow levels into the 30% to 50% fee range.”
There are recent IPOs that Dusaniwsky thinks could point to Snap’s short interest path.
“Twilio Inc.’s IPO in June 2016 provides insight into SNAP’s preliminary short activity,” he wrote. TWLO’s short interest climbed to $80 million in the first week after its IPO, which was 20% of the initial offering, and three weeks after the IPO short interest continued to increase.
Three months later short interest peaked along with the stock price. By the end of the summer, almost half of the stock was being borrowed to cover short sales, he noted.
Looking back at recent IPOs, including Twilio, Nutanix (NTNX US), Planet Fitness (PLNT US), Athene Holding (ATH US) and Shake Shack (SHAK US), to use as examples of post-IPO short interest, we see the results are binary in nature. Either short demand continues to increase in the name if the stock’s price has a significant follow-up rally in the stock after the initial post-IPO run-up with borrow supply tightening and borrow rates spiking into the 20% to 50% fee range. If the secondary rally is absent or muted, which allows short interest to either decrease or stabilize, borrow availability will increase over time and borrow rates will remain within the 1% to 3% fee range
For those considering short selling, Dusaniwsky has a message that speaks to the recent market run-up as well: “SNAP short sellers will certainly need conviction in their trades.”