Twitter: What's It Worth?
Comment of the Day

November 07 2013

Commentary by Eoin Treacy

Twitter: What's It Worth?

This article for Knowledge@Wharton may be of interest to subscribers. Here is a section
Ramesh and Abrol expect Twitter's year-over-year revenue growth to steadily drift down, from 88% in 2013 to 17% in 2018. They see operating profit turning positive in 2015 and free cash flow to be in the black in another three years. “Our fundamental approach was to stay a little conservative,” Ramesh says. It seemed the most prudent approach, he notes, since Twitter did not disclose advertiser metrics such as how many users are on the platform and their churn rate. Advertising is the core driver of revenue, so these disclosures are critical for modeling projections. “It was the most crucial piece of information, and [Twitter] didn't provide it,” Ramesh points out.

The two students have a “buy” rating on Twitter because the IPO price range is below their fair value of $27.35. But Ramesh says he is not going to be buying the stock out of the gate. “I would be cautious until they reveal more of their revenue model,” he notes, adding that he predicts Twitter shares will go up on the first day of trading but then eventually float down over the next few months.

Eoin Treacy's view The social media sector has made a splash in the stock market over the last few years and has been a bright spot on the IPO route following the credit crisis crash. The growth rates of these companies and the speed with which they have come from nowhere to carve out substantial niches in the technology sector is a testament to the inventive capacity of their founders and the USA's technological and private equity ecosystem. However as investors we have additional considerations to weigh.

The fact that the initial range set by the company for its shares was in the $17 -$20 range but that it was estimated to IPO at closer to $26 and surged to $50 on today's first day of trading suggests a great deal of enthusiasm about future earnings. This even surpasses Facebook's initial surge and suggests that little room has been left for any kind of disappointment. Such a high premium to what the company valued itself at less than a few weeks ago suggests the next few months could provide a more favorable entry opportunity if one were so inclined.

Generally speaking the social media sector represents an innovation in how advertising is presented to consumers. We are most susceptible to and most tolerant of advertising when we are calm and relaxed. This is at least part of the reason conventional advertising historically focused on media such as radio, TV, magazines and newspapers. Social media now offers an additional avenue for access to consumer attention. Therefore media campaigns now tend to have a broad spectrum approach which almost always includes a social media component as a matter of priority. Twitter competes for advertising budgets with other social media companies such as Facebook and LinkedIn. Both companies have been confined to ranges for the last month as processes of mean reversion unfold.

While each of the social media companies offer access to a specific niche, their larger customers need to focus on fostering a global brand and therefore adopt a more comprehensive approach. Within the broad advertising space, UK listed WPP and soon to merge Publicis and Omnicom dominate the sector and continue to move from strength to strength. They would of course be best bought following reversions towards their respective means.

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