The tweets just keep coming for Twitter—thousands per second, by latest count. But the giant of social media one-liners needs to show a year of steady revenue growth if it hopes to avoid Facebook's disappointing stock market debut and the serious failure of others like Groupon and Zynga.
The pressure is on this year for Twitter as it enters the home stretch on its way to an IPO that many expect to launch a year or so from now. Before it happens, the company must complete the difficult transition from Web 1.0-style popularity to Web 2.0 profit.
"We have no doubt that the huge problems of the Facebook, Zynga, and Groupon IPOs—and high-profile LivingSocial's $950 million in venture capital raised burned through so quickly—reinforces Twitter's decision to take a go-slow approach on its IPO," says Sam Hamadeh, chief executive of PrivCo, a provider of financial data on private companies.
Creating an engaged audience is not a problem for Twitter—and it doesn't need any Super Bowl or Academy Award TV ads to do it. (There were nine million tweets about the awards during the event.) If anyone doubts Twitter's ability to create an audience, they are probably tweeting about it. Twitter is already so ingrained in the culture that it is an established media giant by itself with 500 million registered viewers. Tech-savvy people are too busy trying to build Twitter followings to stop and figure out if it's really worth the effort.
But for investors, the company's success will be measured not by who is tweeting but by Twitter's ability to find advertising sponsors to make money on those terabytes of tweets. The company is private and its true financial numbers are not known. Twitter investors are long-term investors who are betting the company will keep growing well into the future. But they are looking for some kind of payback in the next two years in the form of an initial public stock offering or a buyout by a larger firm at IPO-type valuations, says Hamadeh.
An IPO is far more likely than a sale to a larger company. There are a limited number of potential strategic acquirers who would pay $10 billion or more for an investment that might take years to become very profitable. Apple and other tech companies, with huge stashes of cash, have been mentioned as possible buyers who could enhance their market positions by adding Twitter to their offerings. A report last year said Twitter rejected a buyout offer from its archrival, Facebook.
Twitter's chief executive officer Dick Costolo, in a recent interview with the Wall Street Journal, said an IPO is "not necessarily inevitable." He added that "There are lots of different choices companies can make now."
One of Twitter's options is to remain private for a prolonged period and build the company in a slower, more deliberate way than a public company can do, and preempt a sequel to the Facebook drama. An emerging marketplace for pre-IPO shares could satisfy any immediate demands by early shareholders and employees pushing to get money out of their holdings.
Still, there are also public buyers to worry about. Waiting too long to go public raises the concern that private investors will push the value so high that the shares will be overvalued by the time they are offered to the public, a factor in the $100 billion Facebook IPO. Facebook insiders sold heavily at the start of trading to capture the puffed-up shares, and the company's value began sinking, losing $40 billion in market value in the weeks after the offering. Zynga shares fell 70 percent from their IPO level and Groupon by 80 percent, leaving investors wary about buying any social media stock.
Twitter will do its best to avoid selling too late or too early, says Hamadeh. By waiting a year, it is likely to show a doubling of revenues and be in a stronger position to handle the kind of scrutiny and high expectations that met Facebook. By that time, Twitter is likely to be valued at about $9 billion to $11 billion, or about 10 times expected revenue, which is about half the amount per dollar of revenue that Facebook commanded when it went public.
"They will do their IPO at exactly the right time—in roughly 12 months when they have good quarterly earnings visibility, are still growing at high double-digits, and after they've worked out some monetization experiments behind the shades that come with being a private company," says Hamadeh.
The company does not have a great need to raise cash since it has an estimated $500 million on hand to fund its own operations and pay for investments that fit its growth strategy. When Google was at a similar stage in 2003, it made a $100 million deal that assured its future for years to come, buying Applied Semantics, which became the key component of its AdSense and AdWords applications that wired a virtual cash machine to its powerful search engine by giving it a way to turn its billions of Google searches into paid clicks.
Twitter is at a similar crossroad. Indeed, it shows every sign it can monetize more of its tweets, and already has started to do so. The research firm Greencrest recently estimated that Twitter's overall revenue from a mix of strategic partnerships and its own advertising sales will reach $1 billion next year. But investors will remember that a year ago, Facebook looked like a solid bet to justify its towering stock valuation. In a fast-changing environment back then, the disruptive power of mobile media erupted at the time Facebook was offering its stock to the public. When it did, Facebook looked like it was caught with its hoodie down. Mobile was overtaking page views so quickly that it was eroding the advertising premiums Facebook expected on its traditional Internet ads.
Some fear Twitter might face similar unexpected challenges. Large advertisers are awed by its broad reach and its growth as a global company, although there are worries that Twitter could hit new barriers to future expansion, says Greencrest analyst Max Wolff. Tweets are even less predictable than Internet advertising because the tweeting audience decides when and where the one-liners flow. "Chrysler doesn't want to sponsor car ads that run with car tweets about gruesome accidents, which is what people might be tweeting about," Wolff says.
Twitter also faces competitive threats from established players like Facebook, which could expand its messaging and other Twitter-like tools. Google also remains a force as more users connect to its Google Plus social media platform. Either of the big competitors could use their already immense user base to build social media that mimics Twitter's or, less directly, simply target the same advertisers as overall competition heats up. Google and Facebook are ahead of upstart Twitter when it comes to measuring and marketing to their users. Measurement and strong user-based data has also fueled growth for LinkedIn, which provides the only big success model for a social-media public share offering. Its shares have tripled in value since its IPO a year ago.
With Twitter's strong user base, the threat from other companies is manageable, says Wolff, who also sees great potential for surprises on the upside. Twitter is actively seeking ways to add revenue sources, as Google did with its then-novel plan to charge for search clicks as it did with its AdSense, and Facebook, with less success, did with its strategic partnership with Zynga. Wolff cites a recent deal Twitter made with advertising-measurement giant Nielsen in which the companies will partner on tie-ups that link social media ventures and possibly other broader media ventures. Wolff sees strong possibilities to make more use of the huge Twitter followings that athletes and other celebrities already have, turning their tweet-enhanced media appearances into premium prime-time advertising venues.
"They have a ton of traffic that they need to monetize," says Wolff. "So if you think about it, it is really not that much of a problem." Not for the venture capitalist and early-stage investors, at least. But when it comes to wooing public investors, who crave the certainty of long-term stability, those issues are more of a worry. Twitter has time to solve them—at least for the next year, which in social media terms is a very long time.
Corrected on 02/28/2013: A previous version of this story misstated the number of tweets per second on Twitter. It is thousands per second.