Activist Letter to Snap Inc. Management

Dear Snap Inc. Management,

I am Blake Zilberman, a 16-year-old high school student from Colorado who runs an investment vehicle, Zorik Capital. I am writing to you as a concerned shareholder of SNAP. While I may be a small investor, I am precisely within your primary market of high school students, giving me unique insights into how the app is used, insights your management may not have. The 87% drop in SNAP’s stock price ATH can be partially explained by SNAP’s mismanagement of the 363 million DAUs using Snapchat for an average of 30 minutes a day. Rather than focusing on monetizing this vast userbase, SNAP’s management has focused on cash-burning projects separate from SNAP’s main revenue driver, the Snapchat app. This has led to a business that is losing considerable money on projects separate from its key app, while monetizing the app at a far lower rate than its competitors: just 12% of Facebook’s ARPU (comparing US ARPU figures).

I have concluded that to create value for shareholders, management should refocus on (a) moving from a ‘Camera Company’ to a ‘Profits Company’ by reining in their spending and focusing purely on Snapchat, the key aspect of their business, and (b) monetizing SNAP’s most valuable asset, Snapchat. SNAP should work to decrease the ARPU gap between Snapchat and its competitors, chiefly through growing the Snapchat+ subscriber base.

To do this, SNAP must sell/spin off its Snap AR unit which includes the Camera Kit and Spectacles units (excluding the Creator Marketplace and Lens Studio Segments). Additionally, SNAP should develop a more compelling value proposition for consumers to subscribe to Snapchat+. These measures will transform SNAP into a profitable company with reignited growth fueled by a higher-quality, subscription revenue base.

Move from a ‘Camera Company’ to a ‘Profits Company’

As a high schooler, I have watched Snapchat’s primary users use the app to communicate with friends and send photos, sharing their experiences. The camera is no doubt essential, but only essential with the normal, everyday features as well as the basic lenses Snapchat has offered since 2015. Whether or not there are complex AR features embedded into SNAP’s camera will not alter the number of DAUs. SNAP proclaims itself to be a ‘Camera Company,’ but that is not what the users consider SNAP to be. The app is used for communications and some basic camera functionality, so SNAP’s statement that they are solely a ‘Camera Company’ is misaligned with how the app is used. Therefore, SNAP should decrease the R&D budget related to advancing their cameras, and sell the Spectacles and Camera Kit projects as well as decrease general AR spending. Instead, SNAP should focus its spending to ensure it is always enhancing the monetization of Snapchat’s user base.

While a form of AR glasses like SNAP’s Spectacles could hold relevance 5-10 years from now, until then, the development of these glasses will serve as a huge cash burn and distraction from monetizing SNAP’s vast userbase. However, even once the Spectacles are at their proper stage, years from now, it does not make sense to believe that SNAP’s products will be able to compete with Meta’s, or other behemoths in the AR/VR space such as Microsoft. For example, Meta alone is spending three times SNAP’s revenue to create similar technologies, primarily with a VR focus. For Spectacles to be able to compete, SNAP will need to plow huge amounts of money into a segment separate from its key line of business, for a gamble on potential future returns on investment. This simply doesn’t make sense, especially since the glasses are completely separate from enhancing the core Snapchat app, which is why investors are investing in SNAP. If management believes in having a Spectacles offering, why not be a fast follower and adapt or license someone else’s technology that has a core focus and a true right to win in AR glasses?

Camera Kit, a service that allows third-party mobile applications to license SNAP’s AR technology to use in their own apps, is certainly an exciting business. However, it too is highly separate from the Snapchat app. The level of AR advancements that Snap AR is developing, partially to add to Camera Kit, but also to be used in the Snapchat app, are unnecessary for the vast majority of Snapchat’s use cases. Hiring developers to create these technologies appears to be an expensive distraction that is keeping the core Snapchat business from becoming profitable. While some of the features that Snap AR is developing, such as AR Shopping capabilities, will likely become valuable down the line, it doesn’t make sense for SNAP to sacrifice its profitability to build these features in-house. So, SNAP should agree with the acquirer of Camera Kit to license the technology or license it from another third party, while cutting R&D at Snap AR drastically.

I suggest that instead of letting these two businesses eat through cash, pushing SNAP away from profitability while distracting management from monetizing Snapchat, SNAP should work to divest the Spectacles and Camera Kit segments. Given both of these businesses have made intriguing technological advancements, it is easy to foresee Meta, Google, Microsoft, or another large company working to advance into the AR space, scooping up one of the two to take advantage of the technological advancements.  

Once these two businesses are out of the picture and SNAP limits its AR spending to just maintain its current lens features, it will be able to cut its R&D spending drastically. SNAP will then be able to thin down its staff of developers who were previously working to develop AR technologies for Spectacles and Camera Kit. After cutting this R&D spending and these developers, SNAP should be able to drive considerable profitability by focusing on their key business of Snapchat. The exact figures of R&D spending and staff numbers for these two units are hard to pinpoint, as the figures are not disclosed, however, these two projects are highly develpment/R&D intensive and appear to occupy a majority of SNAP’s R&D spending. Based on outside-in research, I believe that 70% of the R&D spending will be cut along with 50% of SNAP’s staff. These numbers may be off as SNAP does not disclose enough information to determine this, however, I set a goalpost, with conservative cost savings estimates. This will then produce a 2023 EBITDA of $1.3 billion for Snapchat at its current state excluding Spectacles and Camera Kit.

Increase ARPU and Return to Growth

After cutting expenditures in the camera space, SNAP should focus on monetizing its user base; there appears to be an opportunity to increase ARPU from Snapchat’s low US ARPU, which is currently a mere 12% of Facebook’s US ARPU. Given most Snapchat users are teenagers, versus 54% of Facebook users over 35 years old in the US, Facebook users will naturally have more spending power, purchasing more of the products they see from advertisements. However, teens are willing to pay for subscription services as many do on services such as Spotify and Netflix. So, in addition to a continued focus on advertising and increasing efficiency for advertisers, there should also be a stronger focus on the subscription service, Snapchat+, given that the average Snapchat+ user in the US has an ARPU of around $75 compared to the average US Snapchat user with an ARPU of $33.

Management targets the newly launched Snapchat+ to achieve 10 million subscribers by year-end. Thus far, money-conscious teenage users have shown little interest in the service, resulting in a mere 0.4% of SNAP’s daily active users subscribing to Snapchat+, as of October. This figure was not surprising to me, because before my research on SNAP, my friends and I often discussed the limited use case for the service. When we found out one of my friends was one of the 0.4% who bought Snapchat+, friends made fun of him for buying a service that has ‘practically no benefits,’ as is viewed by the general Snapchat user in high school. Yes, there was a ‘special’ emoji by his name when I Snapped him, but it appears most of SNAP’s users agree, believing that paying $3.99/month for the service is not of value.

The entree into Snapchat+ appears half-hearted. People at my high school joke that the only people who would buy Snapchat+ are those who are addicted to Snapchat. When SNAP moves into a new vertical to expand revenues, it would benefit from doing so with conviction and with a service that will be tempting to its users. The idea of a subscription service that will help to 1) grow their revenues and 2) diversify their revenue streams to become less cyclical and more predictable, is a great idea. However, SNAP needs to provide a service that its users will want and will purchase.

In discussions with numerous other high school students, I have worked to compile a well-thought-through list of additional features Snapchat+ should add to make the service more attractive to their users. The bulk of these features includes being able to have greater insights into how other people interact with you. They include being able to:

• see when anyone views your profile

• see when people enter the chat with you, not just when they start typing in the chat

• be able to see mutual friends you may have with others

• view how long people look at your stories and Snaps

• see if people sent the same Snap to numerous people

• use additional group chat functionality such as sending polls and votes in group chats

• view other people’s sent and received breakdowns on their Snap Score

• see who people have streaks over 20 days with

• switch to send a message anonymously in a group chat

• see when people zoom in on you on the Snap Map

• access more complex video editing capabilities for Spotlight

This is by no means a strict guideline of what to follow. It is merely a showing that SNAP can contribute more thought and effort in adding services to Snapchat+, potentially making users more likely to purchase a subscription. This should then push ARPU up, increasing revenue in quality and quantity. SNAP could even become creative with Snapchat+ and add a dating app functionality, utilizing SNAP’s large current user base, who may often use the app to meet dates.

While hard to pinpoint the subscription-based revenue increase that can be created through adding features to Snapchat+, one can look to competitors with similar subscription models such as YouTube. Out of YouTube’s 245 million total US MAUs,12%, or nearly 30 million, pay for YouTube Premium. So, if SNAP truly focuses on finding new, impactful features for Snapchat+, one can assume that SNAP could be able to convert up to 10% of its US MAUs into Snapchat+ subscribers. Then, to be conservative, we can model just 5% of international MAUs becoming Snapchat+ subscribers. In this scenario, Snapchat+ would generate $1.115 billion in excess revenue which would likely be highly accretive on a margins basis. While this would grow revenue by roughly 24%, adding features for Snapchat+ is a highly scalable endeavor and would likely turn the vast majority of this added revenue into profits.

I expect that SNAP’s EBITDA margin after cutting away the tertiary expenses of the Spectacle and Camera Kit projects will be around 20%. However, the new revenue from Snapchat+ will be incremental and scalable, creating far higher margins. Given the marginal cost of delivering the upgrades to Snapchat+ will likely only be a few weeks of programming, it is certainly possible to consider high EBITDA margins, in the high 90%’s, so, to be conservative, I modeled 90% EBITDA margins for the incremental subscription revenue. This would create $1.3 billion in additional EBITDA generation annually. For this to happen, however, SNAP’s management must make an effort to find features that will interest its users. Management should make bettering Snapchat+ their primary focus, polling users on what additional features they desire while truly putting in effort and focus to make Snapchat+ their number one priority.

Value Creation and Call to Action

Excluding the cash generated through the sales of Spectacles and Camera Kit, the cost-cutting and Snapchat+ expansion should allow SNAP to generate nearly $2.3 billion in 2023 non-GAAP EBITDA (ex. SBC, which should be at least 50% lower after the cost-cutting activities), pushing the EV / EBITDA multiple down to a mere 7 times for a company with high future growth potential. This is compared to the 15.4 multiple for the industry (based on comps we constructed for the average EV / EBITDA for the social media and advertising industries). Paired with SNAP’s future potential growth and less dependence on cyclical advertising revenues, SNAP stock has the potential to gain tremendously through executing these plans. Additionally, this would drive 43% of SNAP’s EBITDA to come from a subscription model, moving away from dependence on cyclical advertising.

I commend management for the previous round of cost-cutting, but it is not enough. As a concerned shareholder and active user of your product, I respectfully request management to follow the strategies outlined above as the value-creation opportunity at SNAP is far too great to be ignored. I believe that a meeting with management to discuss these ideas in greater depth as well as other ways to maximize value for SNAP’s shareholders would be excellent.

Snapchat is a wonderful product and you are a highly talented management team, so let's please work together to help SNAP’s stock price reflect that.

Thanks for your time,

Blake Zilberman