From Silicon Valley to Secondary Markets

Written by Arjun Gheewala

6 years ago, it started out as a disruptive platform for sharing temporary pictures.

It evolved to diversify its services with face-tracking and geofilters that aided in building a steady revenue stream. It eventually carved out its own market of messaging-based social media.

And on March 2nd, led by Morgan Stanley and Goldman Sachs, it went public.

Snapchat’s — we should say Snap Inc. — IPO values the messaging app at $24 billion dollars, though, only about 10% of that value was offered in equity. The $2.3 billion Snap will help foster its future technological developments and operational activities. Snap’s valuation bears semblance to large cap companies like Royal Caribbean, Tata General, and AutoZone. However, the application reflects a growing trend: the dramatic emergence of asset light business models.

One of Silicon Valley’s “decacorns,” Snap Inc. shares this title with companies such as Airbnb and Uber. These companies tout multi-billion dollar valuations with minimal assets on their books. Apart from being the first-mover in the temporary image messaging space and holding 46 patents in various associated technologies it developed, Snap Inc. owns no tangible assets. And Snap is only one of many such examples in Silicon Valley. Consequently, assessing an accurate value of the company against next to zero assets is becoming a challenge for both investment banks and valuation gurus alike. Following a company’s exposure to the market, the value of the company’s equity primarily relies on protecting underlying technologies, brand value and most importantly, the stability of the network effect.

The network effect is a demand-driven theory that was born in the early 1900s alongside the telephone. The phenomenon argues that a product’s value is codependent on the number of users it has. When the telephone became a mainstream reality, every new user implicitly made the telephone more attractive without necessarily intending to do so. More users equated to greater product value. The resulting bandwagon effect encourages more users to the platform, increasing the company’s value. Today, SaaS companies can leverage value from their underlying user base, creating a tangible asset. Snap Inc.’s valuation is based on the same logic.

After the technology company’s characteristically inflated post-IPO uptick, Snap Inc. experienced a sudden drop that devalued the company by $7 billion. Facebook’s global launch of Snapchat-like features on its popular instant messaging platform Messenger brought Snap Inc.’s excitement to a sudden halt. If Facebook could conjure up the same features as Snapchat in little over 5 months, how can Snap defend its platform?

Investor fear of Snapchat’s impending expiry date drove shares below IPO, reminiscent of Twitter’s experience during its own IPO in 2013. Promising strong return on investment with revenue bolstered by a loyal user base who swears by the 140 character posts, Twitter’s IPO took off like a bullet.

The initial response was fueled by months of hype and memories of the riches many investors earned from Facebook’s IPO not long before. But a focused look at its revenue revealed it wasn’t profitable, not even close. Shares plummeted and currently trade at just around 20% of the price trading at days post-IPO (in dollar values, Twitter was worth $37.95B at its peak and is now worth $11.08B). An ongoing struggle for Twitter to monetize its platform has plateaued the stock’s value at around $15. But Snap Inc. has a promising wildcard.

A seemingly small, but undoubtedly significant, development in the Snap Inc. timeline was the 2016 release of Spectacles. The perky round sunglasses made by Snap were sold in vending machines (reminiscent of Minions) across America and offered Snapchat users the ability to record their daily lives from a first-person perspective. Popularized by Snapchat celebrities, they were a highly sought-after product. At one point, due to limited supply and lofty demand, the smart sunglasses were being flipped on platforms like eBay, sometimes fetching up to $4,500 a pair.

But what many brushed off as a clever accessory and marketing strategy are quite literally a lense into the future of the young company. Snap Inc. is a self described camera company, not a social media company. The change in branding, marked by the change of name in September 2016, indicated a shift in the company’s focus. Under its umbrella are Bitmoji (a customizable emoji platform), Snapchat, and Spectacles. But the latter two are the key players looking forward. But why is a company that at its core is a social media messaging platform pivoting towards a technology company?

The reason might relate back to the network effect and the emergence of camera technologies in other fields. Companies rely on the network effect look to conventional advertising and data licensing to be profitable. These revenue drivers are heavily reliant on audience growth and advertiser demand. This monetization process lacks diversity and makes building a sustainable business model hard. To offset the potential plateau in user growth and profit uncertainty of advertising driven revenue, Snap Inc. is looking elsewhere to compete.

Cloud Vision and Clarifai are entering the private image recognition space through powerful APIs. Meanwhile, large public corporations like Google, Microsoft and IBM are aggressively competing to dominate the public market by integrating their computer vision technologies in their product suite. These companies are keenly focused on imaging technology, and for good reason too. Everything from finance and medicine, to gaming and security are seeking image recognition to provide deeper insights into the world around us. For example, asset managers at BlackRock are beginning to use satellite imagery to analyze the numbers of cars at retail parking lots to get real-time insights on how their portfolios are performing. This isn’t science fiction, because by its own accord, their technology implementations have been seeing significant upside.

Perhaps not in the context of finance, but this is the environment Snap Inc. wants to be a player in. Snapchat as a social media platform is transcending conventional messaging and photo-sharing platforms. Its facial-tracking technology and content sharing facilities show promise of revolutionizing the way we see cameras in our daily lives. Spectacles piggybacks this concept by building an albeit primitive, but promising hardware component to the Snapchat technology. Its offering is a software and hardware synergy that could potentially revolutionize the future of cameras and cognitive technologies with an emphasis on having a presence in our daily lives. Snap’s Spectacles are a better version of the now defunct Google Glass.

At the current trajectory, Snapchat may be changing the way we see technology decacorns. While at its core, the young company is still only recognized for its large social media presence in our daily lives, the implications of its pivot indicate a more valuable underlying business strategy. Armed with a strong user base and protected technological innovation, Snap Inc.’s pictures are worth these 1,000 words.