The number whispered on Wall Street is $10 billion (or $14-$15 if you ask The Saudis), but potential investors in the micro-blogger’s IPO will need more to go on than simple valuation math and guided judgment. As ConvergEx's Nick Colas notes, Tech firms are particularly dependent on innovation and human capital for their viability. So while Twitter may come out with a double-digit billion dollar IPO, Colas points out the most important question – Is it actually worth buying there?
The bottom line to the success of thriving tech companies (historically names such as Amazon, Google and Apple) is that they consistently and reliably build products that people want to purchase and use. Colas explores multiple avenues to determine whether Twitter has the engine to do this, or whether it could emerge more “Groupon” than “Google” in the public company tech arena – and the answer lies in how you weigh the pros and cons of our top 10 points related to the social network’s IPO.
As for Colas, he’d prefer a clearer picture of Twitter’s vision (i.e. a pipeline of new innovative product ideas) before tossing his dollars in the ring.
Via ConvergEx's Nick Colas,
Twitter is the most anticipated Initial Public Offering of 2013, but that doesn’t mean we actually know very much about its real value. Thursday’s news of a confidential S-1 filing with the SEC does little to remedy that, since we don’t get to see the company’s financials. Still, Beth steps into that breach today with some thoughts about how to assess Twitter’s future value based on its business strategy and current operating model.
Twitter is worth somewhere in the neighborhood of $9-$11 billion, according to the standard Wall Street approach. And now, after the company’s September 12 IPO filing, you can expect the speculation and bickering over the micro-blogger’s value to continue. A quick internet search will reveal a handful of analyses, ranging from BlackRock’s recent $9 billion valuation to a Greencrest Capital conclusion that pegs Twitter’s worth at upwards of $11 billion. The basic math behind these valuations is loosely as follows:
With more than 200 million active users at latest count and expected 2014 advertising revenue ranging from $808 million to $1 billion (according to advertising-data firm eMarketer Inc.), Twitter’s per-user revenue is somewhere between $4 and $5. However, the 200 million user count is a dated number – it’s likely higher now and will likely be even higher in 2014 – meaning that this calculation could be overstating per-user revenue.
The most popular per-user ad spending estimate is about $7 by 2015, based on the rate analysts’ expect Facebook’s revenue to grow and the $4 per-user revenue figure. And in the last three quarters of 2012, the population of Twitter users grew by more than 40%. Assuming this pace slows to 30% for the next three years – and that is a giant assumption – Twitter will have about 440 million users by 2015. Multiplied by the $7 per-user ad spending estimate, that comes to $3.1 billion in ad revenue by 2015.
Meanwhile, many folks in the venture community believe that Twitter’s margins are as high as 30% to 40%, though the Wall Street Journal’s Dennis Berman elected to play it safe by assuming Google’s astronomical 21% margins and the search engine’s 17x multiple. Using the Google figures, that $3.1 billion expected ad revenue in 2015 translates to a cool $11.1 billion valuation.
But despite the natural affinity for number crunching, pinning a number on Twitter is more like speculative fun than it is an exact science. Company analysis goes way beyond throwing a 16x multiple on next year’s earnings – especially for private companies – so we’ve compiled a list of the top 10 hashtags related to the Twitter IPO to determine the company’s strategic capabilities and whether or not the social networking service has the horsepower to follow in the footsteps of the Amazons and Googles of the world. We outline our top 10 in the form of a SWOT analysis (strengths, weaknesses, opportunities, threats) and then conclude with a brief note on Clayton Christensen’s Innovator’s Dilemma.
Number One: #ShopTilUDrop
Twitter’s biggest strength right now is its growing importance in the land of social commerce sales. The micro-blogging network accounted for 22% of social-generated e-commerce sales during the second quarter of this year, according to AddShoppers, which relies on tracking codes embedded in retailers’ websites to determine which revenue dollars resulted from a social media site referral. Facebook was the clear winner, with a 28% share of social-generated internet revenue dollars, though just one year ago Facebook dominated the space with a 55% share, compared to just 15% for Twitter. Although social media still represents a relatively small share of e-commerce traffic, keep two points in mind. One, there is a secular shift among advertisers toward directing a greater portion of ad dollars to social media, so the overall importance of social-generated internet sales has a bright future. Secondly, Twitter is gaining on Facebook in terms of social media e-commerce sales referrals – and gaining fast. Advertisers are bound to take notice, and Twitter recently hired its first head of commerce to discover how users can shop via tweets.
Number Two: #YoungRichPeople
A broader strength for Twitter lies in the demographics of its users. Twitter users tend to live in upper-income households and to fall within the 18 to 35 year old category that advertisers target. A study published last month by Pew research determined that 30% of internet users between the ages of 18 and 29 had Twitter accounts, while 17% of those between 30 and 49 used Twitter. This compares to just 13% of 50 to 64 year olds and only 5% of people over the age of 65. Additionally, 22% of internet users who are on Twitter live in households earning more than $75,000 a year, versus 15% living in households making less than $30,000 a year.
Number Three: #IPOWindowOpen
And then there’s the current IPO landscape. Through the end of August, 131 companies have filed for an IPO this year, compared with just 91 during the same time period in 2012, according to Renaissance Capital. Pricings, too, are up over last year – a substantial 38%. So for companies in the market for an IPO, now is broadly-speaking a good time to get in on the action. Of course, we’ll have to wait and see how much stock Twitter wants to sell. The illusion of scarcity that makes for a good IPO is hard to pull off if there are billions of dollars of stock for sale.
Number Four: #LosingControl
Twitter’s most high-profile weakness is the widespread gossip about its corporate culture. Despite having the standard perks you’d expect from a well-funded startup aiming to create a fun workplace environment, word on the street is there’s a downside too. One anonymous blogger and apparent employee described the work culture as “good but chaotic” and said the firm was getting so big so fast that “communication is difficult, and duplicate work is starting to happen.” Business Insider spoke with a former employee who depicted the workplace as a “self-congratulatory, complacent environment” with a mentality of “This is our product, just perfect it.” That attitude, if accurate, is a 180 from the likes of Facebook, which is constantly aiming to reinvent itself and make its products more innovative.
Number Five: #ClimbingTheCorporateLadder
Former employees also opened up to the press about structural flaws. According to Business Insider, sources say Twitter started with mediocre engineering talent (which isn’t all that uncommon in Silicon Valley), but it magnified the issue by promoting them into positions of power and allowing them to hire their own teams, rather than choosing the best talent for the most important roles. In other words, “old-timers” became leaders based on their length of time with the company and not necessarily their talent. Another source said that Twitter hasn’t been enough of an “engineer-driven company” and that at a good tech company, roughly half of the employees should be engineers and this has not been the case at Twitter.
Number Six: #PleaseBuySomething
E-commerce conversion rates are another thorn. Depending on who did the study, Facebook’s social commerce conversion rate is anywhere from 1.08% to 3.30%, meaning that once users are referred to e-commerce sites via Facebook, there is a 1.08% to 3.30% chance they will purchase something. These numbers are nothing to brag about, but Twitter’s projected conversion rate range of 0.36% to 0.90% is significantly lower.
Number Seven: #WhereMyMoneyAt
As for opportunities, Twitter has several in the pipeline, as it focuses on building out its advertising system and firming up revenue growth in the wake of its IPO. The social networking site is now charging $200,000 a day for promoted trends, up from $150,000 last year and $80,000 when they were introduced in 2010. Promoted trends are advertiser-sponsored versions of Twitter’s trending topics that allow brands to stimulate conversation around a particular topic. And because promoted trends tend to be self-perpetuating, brands find them especially attractive. Promoted tweets, which turn a tweet into an ad and show up in users’ streams or against a search, reportedly fetch anywhere between $15,000 and $25,000. The opportunity to continue raising ad prices and improve the appeal of promoted tweets represents potential key drivers of revenue.
Number Eight: #TVSportsRule
Another opportunity involves Twitter’s deal with ESPN. The sports broadcaster has agreed to display video highlights of football, soccer and the X games within individual tweets in return for a guaranteed allotment of promoted tweets that will parallel ads inside the videos themselves, basically allowing users to watch replays on their phone. This finally affords Twitter access into the world of TV, something the company had been interested in for a while, confirmed by its acquisition of Bluefin Labs, a firm that delivers statistics regarding conversations about TV on social networks.
Number Nine: #CorporateBrandingLove
Corporate customer service accounts, too, could offer future benefits for Twitter. According to a quarterly study by Simple Measured, 32% of top brands have separate customer service Twitter accounts (aside from their main accounts) as of the first half of 2013. This up from 23% at the end of December 2012 and will likely continue to grow. It’s clear that top brands are making the effort to communicate with their customers via social media platforms, though the process has yet to prove efficient. The same study discovered that the average customer response time originating through Twitter was 4.6 hours, while a different study (conducted by Social Bakers) found the average response time to be 6.6 hours. Once tidied up, however, corporate reliance on Twitter for customer relations stands to be a strong exit barrier.
Number Ten: #WhoAreThoseGuys
Facebook dominates the social media arena right now, but Pinterest appears to be Twitter’s greatest threat. We mentioned previously that Twitter is rapidly catching up to Facebook in terms social-generated e-commerce sales (in the past year Facebook’s share of the social referrals market sank to 28% from 55%, as Twitter simultaneously saw its share rise from 15% to 22%). But perhaps even more impressive was Pinterest’s ascent – from a mere 2% last year to eclipse Twitter this year with a 23% market share in the space. Separately, three distinct studies on the average value of online orders stemming from social media sites all came to the conclusion that Pinterest leads both Facebook and Twitter in referring big spenders to retailers’ websites.
Another concern is Twitter’s susceptibility to the Innovator’s Dilemma. First penned in 1997 by Clayton Christensen, in a book by the same name, the innovator’s dilemma refers to an outcome when successful companies place too much emphasis on customers’ current needs and fail to adopt new technologies or business models that are able to meet customers’ future needs, some of which are not yet apparent. Christensen argues that such companies will eventually fall behind. By all outside accounts, it seems the world in unsure what Twitter’s next step will be. Yes – they have a successful product – but one successful product isn’t enough to make it big in today’s rapidly changing technology playing field. So the ultimate question revolves around Twitter’s potential pipeline of new products. Does current management have the right vision? Do current employees have the right skills? Or is everyone so focused on the original Twitter that new products are an afterthought?
Twitter’s founders, including current executive director Jack Dorsey, didn’t set out to create a mega billion dollar company. In fact, the service began as an experimental pet project that consumers turned into a social powerhouse; in 2010 company executives made substantial investments in infrastructure to make the service more reliable, as its inner workings were not designed to accommodate the hundreds of millions of users. All that is in the past, though, and Dorsey (also founder and CEO of Square, a mobile payments company) has gone and returned. Joining him in top management positions are the folks briefly described below.
Dick Costolo, Twitter’s current chief, has a background in improv comedy and consulting and is a former Googler with experience in co-founding several web-based companies.
CFO Mike Gupta is a former investment banker, as well as alum of Yahoo and Zynga.
Former CFO and current COO Ali Rowghani used to hold the top finance spot at Pixar.
From an outside perspective, it certainly seems as though management is more business savvy than technologically innovative, and while Twitter may have initially been an accidental success, its future success must be perfectly intentional.
If you’re going to invest in Twitter, then you should be thinking c-level management can intentionally massage it into a $100 billion company. How does it do that? Well, either the strengths overcome the weaknesses and the opportunities overcome the threats, or they do not. Any of the following three paths (or a combination therein) are capable of leading the social networking firm to a triple-digit dollar valuation, but it must choose at least one direction otherwise face the real risk of flatlining.
Grow organically. Back to the math discussion from the beginning of this note, organic growth can occur via a greater than expected increase in incremental users (more unlikely than likely), higher than anticipated ad revenue (quite possible since the future of social network ad dollars is both bright and unpredictable), or through bigger than predicted margins (+20% is huge so this is a tough one).
Get bigger and better. In other words, become Google not Amazon. The latter developed other businesses but at its core it remains a giant retailer, and that is its focus. In becoming a packaging of offerings (a la Google) either by itself or with partners, Twitter could splinter itself to become more relevant to more people (as in its ESPN deal) or create alternate sites.
Become an acquisition target. Though it’s unlikely to be a bargain, we’re betting that some company out there would be will to pay a hefty price tag for the micro-blogger.
Twitter seems to have overcome the management shakeup and exodus of 2011, and the company is clearly growing. Twitter is hiring across all functional units – there are 202 open positions to be exact, including 55 engineers. Expansion is evident, but missing from the story is a clear corporate vision. The underlying factor in all successful tech companies is the ability to create products that people will pay for and enjoy, over and over and over. People thought Groupon, too, was worth about $10 billion before its IPO, and that hasn’t turned into a success story. If Twitter is going to go the way of the Amazon, Google, Apple, etc. then investors need more clarity on its path. Otherwise we’re in for another Groupon.