Twitter IPO Investors Need to Weigh Past, Present and Future

NEW YORK (TheStreet) -- The rising price of Twitter's initial public offering, expected for Thursday, should cause prospective investors to take a step back and consider whether they are willing to invest in the micro-blogging site given its past, present and future.

The IPO has a host of challenges for prospective investors, especially those who won't be getting a piece of allocations from lead underwriter Goldman Sachs (GS) and co-underwriters Morgan Stanley (MS), JPMorgan (JPM), Bank of America (BAC) when the deal prices on Wednesday.

Given Twitter's current IPO pricing of between $23 and $25 a share and reports the 70 million share offering is oversubscribed, there is also reason to believe the company's shares may surge in their first day of trading.

Twitter inevitably will begin trading at a price that far exceeds any earnings multiple given its accumulated losses, and the company's revenue streams will be hard to value considering there are only two years of data for investors to discount. Management change at the micro-blogging site may also indicate Twitter's business model remains in flux.

Any one snapshot, whether it is the most recent earnings results Twitter lists in its amended S-1 filing, or some grand vision of the company's future, are likely to prove an incomplete way of understanding the share listing. A better approach has to involve discounting Twitter's present earnings with building an understanding of how the company can grow and evolve in coming years.

Twitter will IPO as a faster-growing media property than larger competitors such as Facebook (FB) and Google (GOOG), and it holds a more universal appeal than LinkedIn (LNKD). Generally, analysts and investors seem to agree Twitter is pricing its offering at fair, if not attractive multiples, to its expected revenue and growth.

According to SunTrust Robinson Humphrey analyst Robert S. Peck, Twitter's pricing implies a multiple of 10 times the company's enterprise value to revenue in 2014 and a multiple of 6 times EV/revenue in 2015, lower than the average 17x multiple of Facebook, LinkedIn, Yelp (YELP) and Zillow (Z).

Twitter's expected 80% compound annual revenue growth rate of 80%, meanwhile, is higher than its peers. The company's EV relative to its monthly average users (MAU) comes in a $53, a contrast to the average EV/MAU multiple carried by Facebook and LinkedIn.

Of course, if Twitter's shares surge from its IPO pricing, it will stretch all of the company's comparable multiples.

Jim Cramer, founder of Thestreet, has set some hard and fast rules for investors given his expectation that this will, indeed, be a hot IPO.  Cramer believes Twitter has a path toward revenue growth and profitability that investors can trust, however, at some point investors may need to draw a line on valuation. Investors should balk at Twitter shares at a market capitalization of over $20 billion, Cramer said on Wednesday.

That valuation balances the company's expected potential and accounts for the company's still uncertain share count.

Santosh Rao, an analyst at Greencrest Capital said in a Tuesday telephone interview that Twitter's current IPO pricing is "fair" and "makes sense" given a limited float when compared to Facebook.

The analyst expects the company's stock to pop in day-one trading to above $30 a share. At $35 a share, Rao says investors should wait for a pullback and the analyst generally believes investors can wait out the share listing entirely and hold out for further information in Twitter's fourth-quarter earnings, if they so choose.

Rao, however, cautions investors from waiting for Twitter to definitively prove itself. Investors that believe Twitter's platform is strong should invest early and monitoring trends such as user growth and monetization of international users, according to Rao.

Some analysts believe Twitter's IPO will be overvalued, no matter the final pricing terms that are disclosed.

BIA/Kelsey analysts William Redpath and Jed Williams said in a recent report any per share value greater than $20 would "overvalue Twitter."

Those who have a more bullish perspective on Twitter shares may be heartened by BIA/Kelsey's analysis of the company's revenue opportunities.

Currently, Twitter generates over 80% of its revenue from fees paid by advertisers for "Promoted Tweets" and "Promoted Accounts." The company also generates a sliver of revenue from licensing data on the over 230 million member network, which generates over a half billion tweets on any given day. Twitter also recently said it will work with firms like Comcast (CMCSA) and Nielsen (NLSN) in leveraging its network for cable and broadcast TV advertising.

Though Twitter's present revenue appears undiversified, the company may be well positioned to take advantage of a handful of steadily growing markets.

According to BIA/Kelsey's analysis, Twitter will need to quickly scale its advertising business and investors generally believe that a convergence of international advertising growth and pricing with trends already present in the U.S. will provide a strong runway of sales for the company.

"This is Twitter's most obvious and immediate play, though not necessarily an easy one," BIA/Kelsey states.

Twitter could also become the platform of choice for small businesses looking to advertise.

This spring, Twitter began building small business partnerships and the key to its success in what is a $119 billion market according to BIA/Kelsey, may depend on the company proving a return on investment to marketers. Searchable hashtags and Twitter's ability to take ideas viral may prove to have the marketing immediacy that small businesses crave.

Moving into the TV market with a recently announced partnership with Comcast, and a back-end deal with Nielsen could further provide stability to Twitter's ad revenue.

As cable and broadcast networks try to promote their content on Twitter, the network could prove to have the engagement that drives traffic and ratings. TV advertising is also one of the biggest pieces of the overall industry, with U.S. TV ad spending coming in at $70 billion a year, according to Nielsen.

Currently, Twitter's presence in so-called "social-TV" is speculative, however, any Twitter user who has followed season finales for shows like Breaking Bad or sports events knows that media goes viral on the social network. Advertisers may be on the cusp of opening up their pocketbooks.

"Rather than trying to convince media buyers to commit incremental campaign dollars to nascent, largely-unproven social TV advertising models, Twitter should instead position itself to win a seat at the table as brands and agencies make massive traditional TV campaign buys," BIA/Kelsey states.

Finally, Twitter may be able to make more use of its data licensing for advertisers that competing platforms like Facebook's search features.

Twitter sells its data for those who want analyst sentiment on a brand, a company or an event, in an offering BIA/Kelsey defines as the company's "big data" platform. If Twitter can leverage its search-ability to give marketers real insights, the company's data licensing offering may prove a yet-to-be monetized opportunity.

"Twitter made a grand total of $47.5 million from data in 2012. Data is a massive market and a possible green field for Twitter if it continues to invest in it. The acquisitions of Bluefin Labs and Trendrr suggest that it will, which would provide helpful balance to the revenue line," BIA/Kelsey writes.

While the future of Twitter and the conversion of its strengths into real earnings remain an opportunity for investors to pore over, it also reflects the company's malleability. That is a risk for investors.

Twitter's seven-member board of directors, after all, includes two co-founders and a CEO in Dick Costolo who all are reported to have had differing visions for the company. Twitter's top executives, including CEO Costolo, are also relatively new to the company.

It means that in contrast to Facebook's Mark Zuckerberg, Google's Sergey Brin and Larry Page, and Baidu's (BIDU) Robin Li, Twitter will be going public with a management team that didn't build the business. The company's founders, however, will be sitting on Twitter's board. Given Twitter's reported tumultuous past, tensions between Twitter's new management and its board pose a potential risk for shareholders.

"Twitter does have something to prove here," Scott Kessler, a technology analyst at S&P Capital IQ, said in a Friday telephone interview.

Kessler valued Twitter at between $11.3 billion and $13.7 billion, in a comprehensive Oct. 28 analysis of the company's share offering. Kessler believes the company may not have as broad an appeal as some in the media and investor community believe. He expects losses through 2014.

"Ultimately, we see considerable growth and opportunities and considerable uncertainties and risks, and believe the public valuation for Twitter could be stretched from the start," Kessler concluded.

All told, investors will need to balance what looks to be a reasonable IPO pricing based on current revenue multiples with a potential first-day stock surge as investors pay to own the company's still undefined future.

Setting some hard and fast rules like Cramer's $20 billion market cap limit or share price goal posts around $30 to $35 a share may help investors keep from getting swept up in any pandemonium.

Investors should also be analyzing Twitter's current base of services to users and advertisers and their accompanying revenue with where they expect the company can evolve and grow.

If investors believe in Twitter's ability to convert its analytic data into revenue or its push into social TV, the company's IPO could present a long-term opportunity.

Twitter will trade under ticker symbol 'TWTR' and is expected to list on the New York Stock Exchange on Thursday.

-- Written by Antoine Gara in New York

Follow @antoinegara

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