Eduardo Munoz/ReutersUnder Dick Costolo, who became Twitter’s chief executive in 2010, Twitter developed its first formats for advertising.Twitter is a young company generating large losses as it competes in a highly uncertain sector of the economy.
And that is exactly why investors clamored for a piece of its initial public offering, which closed on Wednesday evening.
Twitter’s shares were priced at $26, giving the company an overall value of $18.1 billion, including stock that the company is likely to issue to employees. That makes Twitter worth more than many storied American corporations, like Alcoa and Harley-Davidson. At that valuation, each of Twitter’s 230 million users around the world is worth $78. Going by such numbers, the public offering has been a tremendous success for the company, which raised $1.8 billion from the offering, a hefty war chest.
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VideoAll this is impressive for a company that has racked up more than $300 million of losses in the last three years — and may not show real profits until 2015.
But investors are betting that Twitter is virtually destined to become wildly profitable as advertisers pay it increasing amounts of money to reach consumers who use the service.
“The possibilities and opportunities afforded by the platform are limitless,” Dick Costolo, Twitter’s chief executive, said in a company presentation to promote the offering. Still, if recent history has anything to teach, the euphoria is unlikely to last.
The fast-changing world of technology can be cruelly unpredictable. It tripped up companies like Groupon and, for a while, Facebook, Twitter’s much larger rival for advertising dollars. If Twitter also slips up, its shares could tumble fast, too.
“That’s always the peril of high-growth stocks,” said Lawrence Levine, a partner and a specialist in financial valuation at McGladrey, an accounting firm. “So much of the valuation is embedded in the expected growth rate.”
Wall Street’s bullish case for Twitter is seductively simple.
The company has established itself as a major hub for social media activity, alongside Facebook and Google. Now, as advertisers devote more of their spending to Internet campaigns, analysts expect that Twitter will almost inevitably rake in a sizable share of that spending. Its revenue should — in theory — soar. The company, according to analysts, could post revenue of $1.9 billion in 2015, three times what the company is expected to make this year.
Yet Twitter’s stock price, even before its first day of trading, may already reflect most of that growth.
Shares of Twitter begin trading on the New York Stock Exchange on Thursday. If underwriters exercise an option to sell 10.5 million more shares to satisfy demand in the market — in what the industry refers to as an overallotment or “green shoe” — the company’s haul will rise to $2.1 billion, and its valuation will grow to about $18.3 billion. Twitter’s underwriters are expected to make use of the green shoe because of strong appetite from investors, according to people briefed on the matter.
The company could start trading with a market value of around 11 times its expected 2015 revenue, according to estimates from Sterne Agee. At that multiple, Twitter would already be more expensive than other social companies, like Facebook, Yelp and LinkedIn. The market is valuing those companies at a lower multiple of 8.5 times their expected 2015 revenue, according to Sterne Agee.
Twitter is not expected to be profitable under generally accepted accounting rules until 2015. Skeptics wonder whether this is because the company is struggling to find ways to serve advertisers.
To a certain extent, social media companies are black boxes, making them harder to value than companies with more visible, conventional businesses. A company like Twitter sits on an enormous number of user interactions, and it has to determine how to exploit those for advertisers. But it has offered few specifics on exactly how it will enable advertisers to place the right ad with the right users.
Twitter has released intriguing numbers that have excited investors. For instance, it says that, in the third quarter of this year, it took in $2.58 in advertising revenue for every 1,000 times that American users interacted with their Twitter accounts. In effect, the company is booking a quarter of a cent every time American users do something on their feeds, which suggests Twitter is sitting on a reliably lucrative business.
Outside the United States, where the company has 77 percent of its users, the figure is only 36 cents for every 1,000 interactions. Bullish analysts say the low figure shows that Twitter has room for growth.
But it is not clear how engaged the international users are compared with American ones. One way to track engagement is to look at how many daily active users Twitter has in each region. But unlike Facebook, Twitter has given only a daily active user figure for the entire company — around 100 million, which is less than half the monthly active users.
As Twitter’s public offering was closing on Wednesday, Mary Jo White, the chairwoman of the Securities and Exchange Commission, gave a speech that raised questions about the sort of numbers that appear in Twitter’s financial documents.
“Consider a company that correctly claims it has a hundred million users, and that the rate of user growth is expected to continue to grow at double-digit rates,” she said, while not mentioning Twitter. “What if the bulk of the growth in the number of users is in an area where the company has not yet figured out how to turn those users into paying customers?”
After months of foundering, Facebook found ways to substantially increase its advertising revenue, so far proving its doubters wrong. The temptation is to expect Twitter to do the same. But the problem is that the company may already be priced for perfection.
“One day Twitter will make money,” said Anup Srivastava, an assistant professor of accounting at Northwestern University’s Kellogg School of Management. “But it’s not clear why anyone should pay this much for it today.”
Michael J. de la Merced contributed reporting.
