The second-quarter 2022 report from Snap (NYSE: SNAP) was, mildly put, disappointing. Revenue grew 13% year-over-year to $1.11 billion, a far cry from the more than 100% sales growth the company reported a year ago amid the Covid-19 crisis. Snap isn’t the only company experiencing a slowdown in digital advertising. Meta (NASDAQ: META), Alphabet (NASDAQ: GOOG), and even Apple (NASDAQ: AAPL) have experienced a downturn in advertising revenue. And while there’s a narrative that says Apple’s App tracking transparency changes have hurt advertising big time, there’s probably more nuance than just Apple being the villain. 

Snap’s earnings commentary across the recent quarters makes for some fascinating reading and insights, especially when discerning the impact of macro and Apple’s changes on the advertising sector. 

Apple’s App Tracking Transparency-related changes, where apps ask the user whether or not applications have the right to track, rolled out towards the end of April 2021. Snap’s management team discussed this change a year ago in their Q2 2021 call and noted the following:

As Apple rolled out its App Tracking Transparency-related changes near the end of Q2, we observed higher opt-in rates than we are seeing reported generally across the industry, which we believe is due in part to the trust our community has in our products and our business. Apple’s rollout of the most recent iOS update came later in Q2 than initially anticipated, and the pace of updates by iPhone users has also been slower than we anticipated. This has given us more time with advertisers to navigate the transition but also means the effects of these changes will come later than we initially expected.

Snap seemed to indicate then that the uptake by iPhone owners was slower than anticipated and also noted that a higher than expected proportion of Snap users allowed app tracking. The tone sounds like one of cautious optimism. 

But then Snap went on to miss its own guidance for Q3 2021. During the Q3 2021 earnings call, Derek Andersen, CFO of Snap, pointed to iOS changes, macros uncertainties, and supply chain as headwinds. 

Then in the Q4 2021 call, management again emphasized macro headwinds:

As anticipated, on the Brand side, macro headwinds related to supply chain disruptions and labor disruptions, materialized and remain unresolved in the New Year. Despite all of this, we continue to onboard new advertisers, which drove our active advertiser count to another all-time high.

Concerning Apple’s platform changes, it was mentioned that advertisers had begun to recover from the initial disruption caused by iOS changes. More specifically, management said the following about Apple’s SKAdNetwork and Snap’s own measurement solution:

Entering Q4, third-party solutions such as SKAdNetwork or SKAN, were already widely enabled by our advertising partners. By the end of Q4, our first-party Advance Conversions measurement solution was enabled for advertisers representing more than 75% of Direct Response advertising revenue.

CFO Andersen also had some bullish statements to make to mark the end of 2021: 

Our revenue has more than doubled since 2019, with a 2-year top-line CAGR of 55%. While we have invested aggressively in the future of our business in 2021, we expanded our gross margins by 5 percentage points and delivered 35% of our incremental revenue to the adjusted EBITDA line over the past year. We have now been adjusted EBITDA profitable for 2 consecutive years and produced our first quarter of net income profitability in Q4.

Fiscal 2021 was a big year for Snap. The company achieved its first year of positive free cash flow, bringing home over $200 million. Management sounded confident in their ability to self-fund their investments for future growth. Snap also provided solid guidance for Q1 2022, expecting year-over-year revenue growth of around 36% at the midpoint. 

Snap went on to soundly beat its revenue guidance for Q1 2022, delivering revenue of $1.63 billion, an increase of 38% year-over-year. But they also provided additional color on the impact of the Russian invasion of Ukraine, noting:

Revenue growth in Q1 initially exceeded our expectations entering the quarter, with year-over-year growth of approximately 44% through February 23. In the days immediately following Russia’s invasion of Ukraine on February 24, we observed that a large number of advertisers initially paused their campaigns. The vast majority of clients resumed their campaigns within 10 days following the invasion. And daily average revenue in March exceeded pre-invasion levels, but the rate of year-over-year growth remained below pre-invasion levels at approximately 32% from February 24 through the end of Q1.

Snap’s roller coaster ride highlights the fragility of the digital advertising market. Advertising can literally stop at the push of a button. That was the message Snap’s management was telegraphing when they provided more details on how Q2 2022 was progressing, noting the following alongside their guidance for Q2 2022:

Given the uncertainty caused by these challenging circumstances, we have opted to share that our growth rate thus far in Q2 is approximately 30% year-over-year or just below the roughly 32% growth rate we observed following the invasion of Ukraine in Q1. That said, we are concerned that the operating environment ahead could be even more challenging, leading to further campaign pauses or advertiser budget reductions. As I noted earlier, our prior year comparisons are more difficult in Q2 than in Q1.

Given this, we believe that revenue guidance of 20% to 25% year-over-year revenue growth in Q2 is reasonable. Given the abundance of opportunities we see to invest productively in our business, we continue to expect that 2022 will be a significant investment year. When the impact of new investments in 2022 is combined with the full-year impact of investments made in 2021, we expect that a smaller share of incremental revenue will flow through to adjusted EBITDA and net income in 2022. 

The extent to which management was expecting a slowdown was stunning. When the company reported Q1 2022 results in April, they had about three weeks of Q2 under their belt. For the quarter’s growth to come in at 20%, the remainder of the quarter had to experience a material slowdown. 

We can blame the dramatic pullback in advertising on Apple’s changes, but as detailed in prior quarters, it appears Snap was faring just fine with the iOS changes. What really upended advertising was the deterioration in the economy. As costs soared and consumers adjusted their spending habits post-Covid reopenings, businesses made adjustments to their advertising budgets. As advertising budgets aren’t growing or possibly shrinking in some cases, there’s more competition for them. That hurts the smaller players than the big two in digital advertising. 

Snap’s management team candidly explains the situation during their Q2 2022 call:

So today, we’re seeing the overall advertising pie grow at a slower rate amid the macro headwinds I’ve mentioned earlier. So as competition, whether it’s with TikTok or any of the other very large, sophisticated players in this space, has only intensified. So it’s hard to disentangle the numerous factors here impacting what’s clearly a headwind driving deceleration in our business. But definitely, as you see that high grow at a slower rate and you’ve got lots of folks competing very intensely over it, you’re going to see the competitive factor be a bigger part of the overall discussion.

If one follows Snap’s story, it might be fair to say that Apple’s App transparency changes probably weren’t the most prominent headwind contributor. Inflation, supply chain challenges, and intensifying competitive landscape perhaps contributed more to their pain. 

For Snap, there’s some good news. On average, users spent more time on the platform than a year ago. More usage, in effect, provides a larger surface area for monetization via ads. The company is now faced with some difficult choices. It can’t keep going at the current investment levels. Snap has announced a substantial reduction in the hiring rate. Interestingly, the company is also looking beyond advertising with the launch of Snapchat+, a subscription service available for $3.99/month. 

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