- S&P assigned Twitter debt with a junk rating.
- The rating raises questions about Twitter’s investment worthiness.
- Twitter valuations coupled with other parameters make it a risky bet.
Twitter (TWTR) conducted its analyst day event on 12 November 2014, where the company outlined its future plans including product improvements and strategy. Just a day later, S&P rated Twitter debt as junk. The company’s stock tanked by close to 6% on November 13, but rose by about 4.5% a day after, possibly driven in part, by the buy rating and target price of $60 issued by Goldman Sachs. For those who have been following Twitter’s stock, it’s probably just another day at the office. But, the recent developments beg the question, Twitter debt rating is junk, what about rating for Twitter? (See: Twitter Analysis Video)
S&P Junk Rating For Twitter
In September 2014, Twitter raised a total of $1.8 billion by issuing two tranches of convertible bonds, worth $900 million each. The two tranches which mature in 2019 and 2021, bear interest rates of 0.25% and 1%, respectively. More details can be found in the press release announcing the pricing of Twitter convertible notes offering.
S&P assigned these recently issued notes with a junk bond rating. The rating agency reportedly issued an unsolicited Twitter credit rating of “BB minus” with a stable outlook, which is explained on the agency’s site as “Less vulnerable in the near-term but faces major ongoing uncertainties to adverse business, financial and economic conditions.”
S&P attributed its credit rating of BB minus to its Twitter's aggressive investment in growth and the possibility that it might not be able to generate positive discretionary cash flows for a couple of years, until 2016. As per CNBC, the note from S&P said:
"We could raise the rating if Twitter broadens its revenue sources through international expansion and new product launches, maintains its market position, continues to improve its profitability, and achieves positive and sustained discretionary cash flow in excess of $100 million in 2016,"
Twitter Stock Analysis
S&P’s rating pertains to Twitter’s debt. So what about the stock? While Twitter’s stock price indicated shock, an interesting article on Bloomberg View explains in detail why the Twitter junk rating is not surprising.
As we have mentioned in the past, a stock price correction for Twitter may not be an attractive opportunity for investors, given the valuations, among other things.
So, why do we think that Twitter is a risky bet? To summarize quickly, we’ll just break that up into 3 broad reasons.
- Twitter Profitability (or the lack of it) is something which makes the stock unexplainably expensive. The company has never earned a single dollar of net income, a fact that has probably also influenced its credit rating.
- Twitter User Growth & Engagement – In our earnings review, we covered in detail how Twitter User growth was disappointing after having picked up intermittently in the previous quarters, and user engagement didn’t show significant improvement in spite of the record breaking user activity on the platform during the FIFA world cup. Both of these are important yardsticks while gauging the site, and the recent performance renewed skepticism about the scalability of the micro-blogging site.
Nobody can find fault with Twitter revenue growth over the last year. That said, Twitter revenue guidance for 2014 implies a significantly lower growth rate in Q4 2014. Twitter has made it a habit to beat its guidance. However, in its earnings con-call, the company indicated that it now wants to make its projections more “accurate” and discouraged analysts to factor in projections that are very different from Twitter’s guidance. Nonetheless, what comes out of the Q4 earnings release remains to be seen, and so, we wouldn’t read too much into the guidance just yet.
Based on our analysis, we continue to find that the stock is a risky bet. There are always bound to be contrary views, but for those who believe that the Twitter credit rating is justified, the stock should be even more repulsive, given that shareholders claims come after those of lenders.