Twitter's (NYSE:TWTR) stock jumped significantly on the first day of trading following the strong demand and limited float of its initial public offering. Our current price estimate for the company stands at $26, which is a discount of about 40% to the market. However, unlike the market price, our estimate is based on a diluted share count of approximately 666 million for Twitter, which includes restricted stock units as well as outstanding stock options. This is an important distinction for high-growth technology companies like Twitter that can have significant amounts of options outstanding due to compensating employees with options.
Given the investor exuberance about the stock, it is worthwhile to understand the upside potential for Twitter shares. The key drivers of the company's value include the number of monthly active users, ad revenue per 1000 timeline views and the EBITDA margin. We believe that given the right catalysts, Twitter has the potential to do better than our expectations by each of these metrics. We will quantify each of these in turn.
Twitter Gains 1 Billion Monthly Active Users Globally Over The Next Decade (50% Upside)
Twitter's average monthly active users stood at 160 million in 2012. We expect this figure to grow to 226 million for 2013, and forecast it to reach past 600 million globally over the course of the next nine years. Most of this growth will be driven by growing smartphone penetration, Twitter's compelling value proposition to users and marketers, and its integration with the third party sites resulting in wide distribution and visibility. However, there would be a massive 50% upside to our price estimate if Twitter were to gain 1 billion monthly active users globally during the same time frame. This upside scenario is based on the assumption that the U.S. could contribute an additional 50 million users, with the remaining 350 million coming from international markets.
Facebook has already hit 1.2 billion monthly active user mark, in large part by leveraging the expansion opportunities overseas. There are close to 7 billion people on earth and more than 2.4 billion Internet users. The number of Internet users has doubled since 2006 and the count could increase by another 1 billion in the next 4-5 years. While the market opportunity is certainly big, it will not be easy for Twitter to reach this milestone. Having 1 billion monthly active users nine years from now will imply having almost a quarter of the world's Internet users using Twitter at least once a month! The company will certainly need some catalysts to achieve this.
One of the catalysts could be Twitter's potential role in shaping political and economic systems of emerging nations. It can act as a powerful tool for sharing thoughts and opinions among political leaders and general masses, as well as creating greater awareness for information transparency. Another catalyst could be Twitter becoming the prime source of important news and event announcements. Even now, many news items are tweeted before they are reported on TV or news websites. Indeed, the platform is still not a mainstream news source, but certainly has the potential of becoming so. We also believe that Twitter will need to make its platform much more feature-rich than it currently is today, in order to come anywhere near this milestone. This is a double-edged sword, as it could also alienate users who like the platform's simplicity.
International Ad Revenue Per 1000 Timeline Views Reaches $2.50 (25% Upside)
Twitter plans to increase the size of its sales and marketing support teams in some of the international regions of Australia, Brazil, Ireland and the Netherlands. In addition, it also intends to extend its self-serve advertising platform to countries other than the U.S. We believe that these efforts will help the company sell more of its ad inventory over time, which will support the growth in its monetization levels for the international segment. From about $0.17 in 2012, we expect Twitter's international ad revenue per 1000 timeline views to reach $1.54 in less than a decade. However, if the company can grow this figure to $2.50, which will be roughly half of that for the U.S., there can be 25% upside to our price estimate. In order to do so, Twitter will need to both significantly increase ad density and ad pricing, and to target big brand advertisers that are capable of paying higher prices.
In order to increase the ad density and have more relevant advertisements, Twitter will need to expand its engagement with small and local advertisers. This strategy has proved successful for other Internet companies such as Facebook (NASDAQ:FB), Groupon (NASDAQ:GRPN) and Yelp (NYSE:YELP). Additionally, there exists significant potential of increasing ad pricing by leveraging the rich media experience of Twitter Cards. Twitter's platform partners use Twitter Cards to embed images, videos and other interactive media experience into their tweets, thus creating a much more engaging experience. These Twitter Cards can be used to create more effective advertisements, which will help the company command a higher pricing. We believe that this will not have any significant impact on user experience as these cards look just like any other tweets, only more visually appealing.
Twitter can also notably increase its monetization in international markets by focusing on expanding the Twitter Amplify program outside the U.S. This program allows content companies to distribute videos on Twitter's platform, along with a short embedded advertisement. Revenues from this advertisement are shared between Twitter and the content partner. The company has built several such partnerships in the recent quarters and some of the notable content partners include NFL, Viacom, Fox, Bloomberg TV, MLB.com and Discovery. It appears that the partnerships are heavily U.S. focused which indicates the potential to expand abroad.
EBITDA Margins Grow Past 55% (20% Upside)
We currently forecast Twitter's overall adjusted EBITDA margins to increase from 6.7% in 2012 to over 45% over the course of the next eight to nine years due to operating leverage gain. However, there could be 20% upside to our price estimate if this figure were to reach past 55% instead. This could happen if the overall ad monetization increases meaningfully more than our current expectations because of Twitter launching more engaging advertisement formats commanding higher pricing. Twitter Cards and Twitter Amplify program are two such examples.
Our price estimate for Twitter stands at $26, implying a discount of about 40% to the market price.
Disclosure: No positions