Analyst: Snap's 'core health is very poor' but there is a silver lining

Financial analysts have now had a bit of time to pore over Snap's finances and issue their opinions, since it released its IPO prospectus on Thursday.

One such analyst is James Gellert, CEO of Rapid Ratings.

His mission is a little different to the average analyst. Instead of Wall Street's usual buy/sell/hold-the-stock view, Gellert rates over 60,000 public and private companies to see how likely they are to default on their financial commitments, possibly even to the point of bankruptcy.

Overall, Snap isn't at high risk to default. But it's not at low risk either, Gellert finds. It rated a 47-100, meaning a medium risk. The problem? Its "core health is very poor," Gellert writes in his report on the company.

Snap "demonstrates weakness in earnings performance, operating profitability, net profitability and capital structure efficiency relative to the global industry set," he writes, based on analyzing Snap's finances over the last 12 months.

Too much Google?

In particular, Gellert says Snap's capex efficiency is in the lowest 15-th percentile compared to other companies globally.

That is, perhaps, to be expected. Snap is a young company growing quickly and is dependent on third-party data centers (aka cloud computing) to run its company. Last month, Snap signed a five-year, $2 billion with Google to provide cloud services that guarantees Google a payment of $400 million a year. Snap's entire revenue for 2016 was just over $404 million.

Snap has always used Google's cloud and has been touted as one of the Google cloud's biggest success stories. In fact, Alphabet's venture capital arm, CapitalG, is even one of Snap's investors.

However, Snap may not be so dependent on Google forever. In the fall, months before it signed this five-year deal, the company famously hired an expert in building data centers away from Amazon Web Services to lead its engineering team.

Plus, it indicated in its SEC documents that it "may invest in building our own infrastructure" and that it is also "currently negotiating an agreement with another cloud provider for redundant infrastructure support of our business operations."

The company offers no real hints about who that provider might be. However, it does say that it worked with Oracle Data Cloud to study how ads that run on its apps drive in-store sales of consumer goods. It would be a huge coupe for Oracle to snare some or all of Snap away from Google.

Like Twitter, except different

Gellert tells us that there are eerily similarities between Snap and Twitter.

"Twitter showed a showed a similar Financial Health profile back in 2013 at the time of its IPO, but that's not to say that Snap is in for the same kind of trouble,"he says.

"Snap has the unique opportunity to learn from Twitter's giant missteps, and if it's going to have success, it needs to capitalize," he says.

Plus, there's no reason to believe Snap will experience Twitter's same problems.

"The revolving door of management and lack of coherent product direction at Twitter killed confidence. Their part-time CEO plan is a bizarre and controversial decision. Snap needs to convey direction, a path to profitability, and grow a team that has confidence and stays with the company to then deliver results," he says.

Then again, Snap has its own hurdle to overcome: it's culture of secrecy.

"As a company that historically hasn't conveyed much direction and taken pride in its secrecy, even internally, this is a new world. The public eye is sure to bring many challenges for Snap's management team considering the public equity markets don't like opacity," Gellert says.