- Twitter takeover rumors have driven investor expectations to new all-time highs.
- However, Twitter’s recent efforts to drive engagement have fallen short of expectations.
- It’s highly likely that speculation of a potential takeover will continue, but it doesn’t make Twitter a good investment.
Speculation over a potential Twitter (NYSE:TWTR) takeover reached feverish levels given rumors of a potential suitor in the form of Salesforce.com (NYSE:CRM) or some other relevant media company like Walt Disney (NYSE:DIS). Not surprisingly, many analysts are skeptical. More importantly, many are anticipating a takeover bid below market value given the high-profile failures of the Olympics and NFL Thursday on Twitter. Twitter’s motivations for a sale are unclear, but some of the most reputed media outlets are adamantly certain that it’s a toss-up between Salesforce or Walt-Disney.
Here’s what Bloomberg Markets reported on Monday, September 26th:
Walt Disney Co. is working with a financial adviser to evaluate a possible bid for Twitter Inc., according to people familiar with the matter.
After receiving interest in discussing a deal, Twitter has started a process to evaluate a potential sale. Salesforce.com Inc. is also considering a bid and is working with Bank of America on the process, according to other people.
We have witnessed various reports that have failed to materialize in the past. Nonetheless, it’s fair to assume that Twitter is entertaining conversations with potential acquirers. But disagreement on valuation could cripple the possibility of an actual deal.
Why the sudden motivation to sell?
I believe Twitter executives had high expectations from either the Olympics or NFL sports licenses to reverse the trend in declining MAU growth. User growth stagnancy, and lack of willingness among senior executives to materially alter the product to match other social applications (i.e. Snapchat) has given rise to a third option: a takeover bid.
In this scenario, Twitter’s management limits the risk of doing further damage to shareholders and will return shareholders a guaranteed sum of money. Changing the application to match other social application risks alienating the current installed base of users, but maintaining the status quo has done very little to attract new users to the platform.
Source: Oppenheimer Co.
The data from Oppenheimer suggests De minimis impact on overall platform engagement when pertaining to the Olympics.
However, the more troubling indicator came from the WSJ, which reported 243,000 average viewership for Thursday Night Football. We know this figure is accurate because it came directly from the NFL. As such, the event performed below expectations, as analysts were conservatively estimating 1 million in average viewership.
Instead, Twitter’s NFL Thursday game performed in-line with my initial estimate of 267,000 in average viewership. Keep in mind, my estimate was 9.8% above actual figures but was much closer to reality than other forecasts. I arrived at this conclusion using historical engagement, available audience, and level of adoption relative to cable TV consumption.
The event performed well below management expectations, as the management team mentioned that the telecast of NFL Thursday generated 10 million in user impressions/activity on the Twitter timeline over the course of the event (based on prior year figures). The performance of the live broadcast fell well below management’s optimistic scenario.
Average viewership is the most important metric, and if reports from WSJ on pricing are accurate (roughly $1 million to $8 million per sponsorship slot) then the short-term boost to revenue may prove less sustainable. This implies that advertisers paid $4.11 to $32.92 per CPM. These rates are fairly exorbitant, and will produce a low return when measured in terms of conversions or brand uplift.
To further substantiate my point, RBC Capital Markets analyst Mark Mahaney cited concerns over Twitter's ad-pricing after conducting a fairly exhaustive survey:
Only 24% of respondents believe their ROI has improved on the platform versus 21% who think it declined (a negative move from the 29% vs. 21% split seen earlier this year). When ranked against its peers, Twitter ranked 5th of 7 in terms of ROI to advertisers, behind Google, Facebook, YouTube and LinkedIn, but ahead of Yahoo and AOL.
The high pricing isn’t very sustainable. If anything, Twitter may have difficulty with retaining sponsors at the prevailing rates. Given these circumstances, Twitter’s management may play up the metrics from the NFL Thursday game by citing peak user impressions as opposed to average user impressions.
Investors should be cognizant of management’s efforts to spin a more positive narrative with regards to its recent licensing efforts. The current ad pricing model doesn’t seem sustainable, and quarter million in average viewership does very little to improve 313 million in monthly active users (Q2’16 figures).
Anticipating downside to valuation
It’s worth noting that shorting TWTR is out of the question, as much of the recent trading activity is fueled by one speculative rumor after another. Miraculously, there’s been no shortage of supportive commentary favoring a rumored takeover.
An astute analysis was conducted by Bloomberg columnist Shira Ovide in which she states, “So far this year, Twitter's stock price has jumped 4.8 percent or more once every six trading days on average, or 24 out of 169 market sessions.”
Basically, if you had shorted Twitter at any point this past year, on average – you would have lost 4.8% every six days.
Shorting Twitter sounds like a horrendous proposition to me.
Also Read: Don't Short Twitter Inc Stock For Now
But then again, the inflated valuation couldn’t possibly get more inflated, could it? At this point, it’s well accepted that value premiums typically range from 25% to 75% for tech M&A.
However, Twitter is more of an outlier in terms of valuation, so it’s exceedingly difficult to anticipate a premium in excess of 25% barring any unforeseen improvement in user metrics/revenue. As illustrated before, Twitter’s recent efforts to boost user metrics, or revenue from content licensing are falling short of analyst expectations (including my own).
Furthermore, the strategic acquirer couldn’t possibly rationalize a takeover to the tune of $30 billion (which is 50% above its current market value) unless Twitter provided some product/cost synergies. However, it’s difficult to articulate such an optimistic scenario, as there’s considerable integration risk paired with unsubstantial operating metrics.
It’s difficult to imagine a scenario where meaningful shareholder accretion exists for a potential buyer. Not to mention, only a small handful of companies have enough money plus strategic overlap to execute this kind of deal.
Today, Oppenheimer Co. released a note detailing their current estimate on Twitter’s valuation in light of recent events/rumors:
We are downgrading Twitter from Perform to Underperform following the 21% increase in the stock Friday on press reports Twitter was nearing a sale. Based on slowing user growth, poor product implementation/execution, decreasing user engagement, inferior advertising technology, platform safety issues, and strong competition, we are establishing a price target of $17, or 13x 2017 estimated EBITDA.
This is Oppenheimer’s first price target initiation on Twitter, and if anything, they’ve avoided assigning a valuation on TWTR for quite a while (and for good reason). I’ve also avoided estimating a valuation on Twitter, as it’s mostly fueled by unquantifiable chatter.
Assuming a Twitter deal doesn’t materialize we can anticipate a fairly substantial swoon, and likely a revisit to mid-2016 price levels of $15 to $16. That’s a fairly substantial drop from today’s price of $23.
The key deterrent to a compelling short-thesis is the singular direction in which media outlets have “confirmed reports” of potential suitors for a Twitter deal. Given recent news flow, it’s inadvisable to enter into a short position, as each confirmed report has had substantial impact on TWTR’s valuation.
Likewise, absent of additional reports – the stock will crater.
At this juncture in time, it’s much better to stay on the sidelines. As such, I continue to reiterate my hold rating on Twitter.
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