Twitter Is Still A Sell

Jul.30.14 | About: Twitter, Inc. (TWTR)


Twitter reported strong results that sent shares soaring, though they remain 20% below where they started the year.

User growth accelerated, though the World Cup may have led to temporary strength while the company made more progress on monetization.

At 100x EBITDA, TWTR is too rich even if the growth resurgence is sustainable and fair value is no more than $28.

In what has been a pretty good year for stocks, Twitter (NYSE:TWTR) has been a clear laggard with shares lower by 39% year to date. However, it looks like shares were oversold as a quarterly beat on Tuesday afternoon sent the stock soaring 29%. Still even after this massive pop, shares are 20% lower than where they started this year. In other words, a short squeeze and increased optimism about the company's ability to grow and monetize its user base could send shares rallying higher in the near term. In coming days, I would not be surprised to see shares challenge the $58 level-they were trading near $50 after-hours. While the company did report stronger results, valuation is just too rich at current levels to merit a longer term investment. I would use any further rally in shares to sell long positions and rotate into other names with more attractive valuations.

In the quarter, Twitter earned $0.02 on revenue of $312 million whiles analysts expected a loss of $0.01 on sales of $282 million (all financial and operating data available here). While this quarter was a clearly a beat, Twitter is not massively profitably, but investors instead focused on the hefty revenue beat. Revenue was up an impressive 124% year over year. Thanks to the strength in this quarter, TWTR expects to generate sales of $1.31-$1.33 billion for the year, $50 million above consensus. With a $30 million beat this quarter, it looks like TWTR will beat current expectations by about $10-$12 million in Q3 and $8-$10 million in Q4. Thanks to higher revenue, TWTR hiked its EBITDA guidance by $27.5 million to $220 million (+/- $10 million).

Importantly, Twitter was able to accelerate user growth. While it seems clear that Twitter's product will never be as universal as Facebook's (NASDAQ:FB), there had been concerns that Twitter was near saturation in many markets. This quarter should alleviate some of those concerns as monthly active users jumped 6% sequentially and 24% over the past year to 271 million. More than other sites, Twitter has been built for mobile with its simple timeline and character limitation, which is why mobile users continue to be a high proportion of overall users, coming in at 211 million. 78% of Twitter users are accessing Twitter on mobile at least once a month. While timeline views jumped 10% quarterly, they were up a less impressive 15% year over year as US views per user continue to fall.

With a focus on breaking news and sharing views on major cultural events, Twitter is very event-oriented. For instance, tweets per minute will increase dramatically during the Oscars or the Super Bowl. In this quarter, we had the World Cup, which engaged much of the world for a month, making it far more beneficial than these other one-night events. The World Cup likely played a role in the significant user gains made during the quarter. If Twitter can't thrive during the World Cup, it never will. Now that Twitter has these new users, it will be interesting to see if the company can keep them or if these users lose interest without major cultural events like the World Cup to discuss.

Yes, the World Cup was a one quarter event, but it can have a long term benefit for Twitter if users find its platform engaging and useful (as I most certainly do). At this point, no one knows for sure how engaged these new users will be. User growth and timeline views in the next two quarters will give us a better idea of retention, though increased guidance shows us that management is optimistic. If we see continued sequential 4-6% user growth, I would suggest that we are witnessing a second leg in Twitter's growth story. If we see a slowdown below 3%, the bear case that saturation is near would be more credible. This quarter gives the bulls ammo, but the World Cup does make the sustainability of the growth a little questionable.

We are also seeing improvement on the monetization front, though there is a long way to go. Mobile accounts for 81% of ad revenue compared to 78% of monthly users. This is likely because mobile viewers are more likely to view Twitter more frequently per month or even multiple times per day. As a consequence, mobile views are a disproportionate share of total views. Ad revenue per 1,000 views rose to $1.60 from $1.44 last quarter for a sequential growth rate of 11%. This is a fantastic rate of growth, and TWTR will need to accelerate monetization with the user base growing 24% year over year if it wishes to maintain revenue growth of at least 50% in 2015. Twitter's nascent efforts to enter e-commerce with its Amazon (NASDAQ:AMZN) partnership may pay dividends down the road, but advertising still accounts for 89% of total revenue.

On the whole, this was a really strong quarter for Twitter. User growth was strong while monetization continues to improve, which pushed the company to a slight profit. Still, another quarter or two of strong user growth is necessary to be sure the World Cup was not the driver of results. Twitter is definitely a great product, but the company is not yet a great profit center. I would be unwilling to pay more than 50x 2015 EBITDA or about $25-$28 per share, and even then, 50x seems like a very rich multiple and would rely on continued progress on monetization. With more users and better monetization at a cheaper valuation, I think investors should invest in Facebook rather than TWTR at current levels. This quarter was strong, but the stock is just too high.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.