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Twitter: A Young Company With An Expensive Price Tag!

July 08, 2014 | About:
Riddhi Kharkia

Riddhi Kharkia

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One of the paths to quick growth and expansion is through acquisitions and there is no better testimony to it than Google (GOOG) (GOOGL). May it be Youtube, Android or any other of Google’s famous acquisitions, the company has been a fierce acquirer since its inception. Of late, it seems that Twitter (TWTR) has also embarked on a similar path as evidenced by its acquisition of TapCommerce, the owner of a leading mobile ad retargeting platform preceded by buyout of Namo Media, a native ads platform. Let’s analyse if these acquisitions along with Twitter’s current state of affairs make it a buy.

Mobile focus

For the last few quarters, Twitter has been making vigorous efforts in order to expand its mobile ads portfolio. In fact, the acquisition of Namo media, a native ads provider is also a major addition to Twitter’s mobile business as it enables the company to bring native ads to mobile app publishers to create a seamless and less intrusive ad experience for users.

Native ads have always impressed advertisers because of their strong ROI proposition they bring on the table. Since, ads are mixed with the regular news feed and targeted to user’s precise behaviour on the Internet, these ads possess immense potential to bring conversions. Therefore, acquisitions of these sort are sure to push up Twitter’s standing as an online ad platform for advertisers.

Is the management shuffle an indicator?

Twitter is poised to report the earnings for its second quarter in a couple of weeks and as such, the news of a new CFO is a bit surprising. In a recent move, CEO Dick Costolo named Mr Anthony Noto as its new CFO replacing the erstwhile CFO Mr Mike Gupta. While there may be different viewpoints in this regard but one of the essential observations that come to the fore is that there might be an upside to the company’s stock in the near term. The rationale is that a hard-charging banker with deep ties to Wall Street would not ideally jump on the board a few days before the earnings. Again, it is to be understood that this is a mere speculation at present and investors should be cautious of this impactful management change before making an investment decision.

Do not worry much about results

While mobile is an interesting field and Twitter is making big changes to its mobile portfolio to be in the game, the poor results delivered in Q1, 2014 did not escape the glare of investors. The sequential growth in revenue fell steeply to 2.8% as the company delivered a revenue of $250 million in the first quarter. Post results the share price fell to a low of $30.66 from a price of $42.62 i.e the price it was trading at pre-results. Since then the stock has surged back to the $40+ level on the back of major changes it made to its user interface to increase engagement and growth in absolute number of users.

The point I intend to convey is that it is not unnatural for a company to experience a volatile run in the first few quarters of listing on the exchange. The online ad space has been expanding aggressively with new social platforms like Pinterest, Yelp etc. enjoying overwhelming demand among people. As such, it is highly possible for a company that is still in its nascent stage in the online ads business to experience bad business cycles. Investors should not be shaken by the movement in revenue and focus more on Twitter’s ability to grow users and frame strategies to monetize the user base.

Volatile run in store?

Twitter’s share took a reasonable beating after reporting its first quarter results as well after the fourth quarter results were reported last year. This happened in spite the fact that company comfortably beat top and bottom line estimates. Now, it is poised to declare the results for Q2, 2014 for which the analysts are expecting revenue in the range of $275-$280 million i.e on the higher end of the guidance given by Twitter. Hence, the company faces a big challenge in meeting rising expectations of analysts and investors and more so because the company is dangerously over-valued when compared to the online ads industry.

Hefty valuation and high risk

Currently, Twitter is trading at 165 times as per Alpha Omega Mathematica, while its closest peer Facebook (FB) is cruising at a forward P/E of around 86. Similarly, Twitter’s P/S ratio stands at approximately 30.97 as compared to the industry average of 10.67, highlighting an over-valuation. Hence, the risk with investing in Twitter is that the stock might slide heavily as it happened after the Q1 results in spite of commendable results.

There is hardly any doubt about the fact that Twitter has a firm presence in microblogging segment of social media and that its user base is growing at a reasonable pace (In Q1, 2014 the monthly active users grew to 225 million). However, being a conservative investor, I would not advise putting money in the stock because of its hefty valuation. To make it clear, I am by no means discrediting the efforts being made by the company in strengthening its user engagement tools and mobile portfolio but being an early stage company in online ads business, the risk of volatility is considerably high in the near term.

About the author:

Riddhi Kharkia
A practicing Chartered Accountant based out of India. I have keen interest in analyzing tech stocks that are driven by value.

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