140 Characters, Zero Dollars
So Twitter opened at $45.10 in its first day of trading. Call me a fogey, but I just don't get it.
Don't get me wrong: I love Twitter. I spend all day on Twitter. I check my account with a regularity usually observed only in lab rats that get cocaine every time they press a lever. Thanks to my assiduous tweeting about everything from the gold standard to dinner-party menus, my account (@asymmetricinfo) has an impressive 17,550 followers. This is a full 1/375 of a Snooki.
So I'm not some crotchety grandma who can't understand why the kids would want to do all this twittering and hip-hopettying. I get the appeal of Twitter to its many millions of users. What I don't get is how the folks operating this valuable and amazing service are going to make a lot of money out of it.
As Felix Salmon points out, there are certainly ways to project fabulous profits for Twitter. But they're pretty speculative:
But the fact is that when it comes to valuing a technology stock, it's stupidly easy to get any number you want. Here's one extreme: the valuation of any company should be equal to the net present value of its future dividends. Twitter is going to pay no dividends for the foreseeable future, therefore, its value is zero. Or, here's another extreme: Twitter should easily be able to generate $5 billion a year in revenue pretty soon, and grow to that level very quickly, which would justify a multiple of, I dunno, 12X revenues. Which would mean a capitalization of $60 billion, or about $110 per share.
The point is that any valuation for Twitter is a result of guess upon guess upon guess. Take Henry Blodget's attempt, for instance. We know with reasonable certainty that Twitter is going to generate about $625 million in revenue this year, so why not treble that number, and declare that its revenues are going to grow to $2 billion in 2015. Then, multiply that number by 10, since that's more or less where Facebook and LinkedIn are trading -- and you get a valuation of $20 billion, or about $35 per share.
If you wanted to get a bit more sophisticated, you could try using probability distributions instead of hard numbers -- but we have no more insight into the probability distribution for Twitter's 2015 revenues than we do into a single forecast for those revenues. And there are certain valuation metrics, like "the amount of money Twitter might get bought for", which are even more tenuous -- yet clearly important.
So I'm not thinking about arithmetic. I'm just trying to figure out where the money might come from.
The answer seems to have to be "advertising." But how much advertising can you realistically do in 140 characters? Twitter doesn't have a very good answer for that yet, and I haven't heard a convincing explanation for how alternative models -- like charging networks to tap into the Twitterstorm that surrounds a big TV episode -- are going to generate the kind of cash that would be needed to justify a $45 valuation. Twitter provides a very valuable service. But it's not yet been proven that it's valuable enough for people to pay the cost of providing it.
Of course, as a friend in the tech business just pointed out to me, we both thought that Google's IPO was overvalued. Twitter has a big base of users who are extremely engaged with the service. That's a hugely valuable asset.
On the other hand, as the Groupon Inc IPO showed, having a lot of users is not, by itself, enough. You also need a way to monetize that user base, and that doesn't always materialize. And the trouble with Twitter is that exactly what makes people like it -- the brief updates and the evanescent nature of the stream -- is what makes it a weak advertising medium. There may be a direct trade-off between users and advertising: Push ads too hard, and you'll lose the users you need to see the ads.
Or you may lose them anyway. One thing I haven't seen people talking much about is how hard it is even to maintain one's network in the social media space; Facebook is already losing teenagers to Snapchat and Instagram. And Facebook, with its permanent repository of pictures and messages, has more lock-in than Twitter does.
If Twitter were already making a bunch of money, then that risk would be well worth taking. But it's not, and I just don't see the promise that so many others seem to. That's not to say Twitter is doomed -- I've obviously been wrong before. But I wouldn't put any $45 into a share of its stock. And seeing so many others willing to do so makes me wonder whether this is because I'm missing something -- or because we're all so desperate for good investment opportunities that we're willing to throw money at any company people seem to like, whether or not it's making money.
This column does not necessarily reflect the opinion of Bloomberg View's editorial board or Bloomberg LP, its owners and investors.
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Megan McArdle at email@example.com