Both Salesforce (NYSE:CRM) and Twitter (NYSE:TWTR) are companies I've been keeping an eye on for the past year or so. I see the former as a losing competitor to Microsoft (NASDAQ:MSFT) in acquiring a monopolistic market share on the enterprise cloud business. I see the latter as a company unfairly punished by investors who do not understand the revenue system of the company, but I have recently given up on the company, as management seems unable to leverage the platform's potential, especially in Japan, where Twitter has become the replacement for message boards and instant messaging.
Now, if there were any doubt as to which company had the dumber management, the fact that CRM backed out of acquiring TWTR (a dumb acquisition decision in the first place), shows that CRM is likely incrementally smarter than the social media company. To make the comparison a bit more scientific, I used Google to gauge the general opinion of each company's management to find 398 results discussing the idiocy of Twitter's management, compared to 108 for Salesforce. Anyway, this article is not about placing dunce hats on the class fool but a general analysis of how the recent move will affect CRM and TWTR.
White Swans are stocks that will likely rise after earnings but if they miss on earnings or report weak guidance will take a significant hit. Thus, your best play is to limit risk with a nonlinear options strategy (e.g., long call).
A seasonality analysis of CRM shows October to have the largest drawdowns, though the stock is up on average. November is a bit of an enigma, with selloffs and rallies equaling out in frequency but not in magnitude; rallies are stronger. With CRM's earnings one month away, these are considerations investors should hold important:
As the cloud industry grows, so does CRM's revenue, but not necessarily profit - i.e., EPS, the most important variable in an earnings report. I believe Microsoft will have eaten much of CRM's market share in this quarter. The upcoming earnings report of Microsoft should shed should light on this and be an important document for any CRM investor.
I might run an in-depth earnings analysis on CRM should I gain enough interest in doing so in Exposing Earnings. Please leave that request if you're one of those interested. But for now, let's dive into one of the fundamental aspects at play: CRM's pull out from TWTR.
The MSFT acquisition of LinkedIn (NYSE:LNKD) was genius for MSFT. It also helped boost LNKD's stock by 100%. Many MSFT investors felt the purchase was unwise at the time, but are coming around to just how helpful a professional/business social network will be for MSFT's enterprise outreach program for its enterprise cloud services.
You might see CRM's interest in TWTR as a similar move. However, CRM is not Amazon (NASDAQ:AMZN); it is a B2B company. In other words, CRM thus should copy MSFT's motive for the LNKD acquisition - not the surface act (i.e., buying a social media company).
The acquisition of a social media platform that has released its demographics and marketing idiosyncrasies should be in line with the same goal MSFT had: To offer corporate-level cloud services to American slacktivists and Japanese hikkikomori? It was a silly idea for an expansion in the first place, but CRM stuck with it until it was the final bidder. Even with this leverage, it backed out - smart!
"What LNKD got that I don't got?"
The MSFT purchase of LNKD made sense when you consider the purchase one of access to data - the revenue from the social media company itself is merely secondary. Being so, the buyer of TWTR should be a company that can leverage TWTR's exclusive data. What data did TWTR have that CRM didn't have?
Some investors see the mass pull-out of bidders a buying opportunity for other companies - Google (NASDAQ:GOOG), for example. Now that TWTR's been publicly shamed and devalued, perhaps some deus ex machina will swoop in and proof TWTR bulls correct. This is illogical. In the tech M&A industry, you are either buying tech IP or data. For TWTR, which offers nothing interesting technology-wise, the purchase is one of data.
What is the useful data in TWTR? Hashtag correlations? Word frequency and word clouds from specific demographics?
Will Google Buy TWTR?
If Google couldn't make Google Plus into anything useful (in the sense of data collection) or even profitable, how much sense does it make for the company to acquire a non-integrated version of the same thing?
In addition, unlike LNKD, TWTR's data is mostly public. Any search engine can be used to collect data from the platform. Why pay for what's free?
Then there's the issue that I've pointed out several times: An overemphasis of member numbers. In reality, members matter little. It should not be treated as a legit metric, as " subscribers" is for Netflix (NASDAQ:NFLX). Not only is the set of unregistered members more important for TWTR's revenue but also the actual "members" of TWTR are inflated by bots, secondary accounts, and spammers.
TWTR's Potential Rebound
It seems as though I'm being harsh on TWTR, and I am. But I have said that TWTR has potential - and it does. TWTR's potential is in its connection of personal data to targeted advertising, much like what Facebook (NASDAQ:FB) has recently mastered, making it my number one choice for an investment in online marketing.
However, many investors misunderstand the backstage workings of targeting advertising. Targeting advertising is performed by advertisers but offered by the platform. If the platform offers the data, the marketer can target the concept supported by the data; see below for FB's platform, which targets down to the detail of recent life events:
TWTR has the opportunity to work the same way but has never leveraged its data. Some company could step in and leverage that data to advertise, and Google could be that company. But such an act would be highly risky, as it requires the company to step outside of its monopoly on search advertising and into FB's monopoly of social media advertising.
The act would be akin to MSFT stepping outside the OS industry to produce hardware. Windows Phone and the Surface laptops haven't been so successful for the company. Generally, unless you're sure to hit a home-run, you want to remain on top of your industry instead of spreading your resources thin.
And then again, what is stopping GOOG from using TWTR's public data to offer targeted advertising via its own platform? Doing so would be free, and the only possible reason for purchasing TWTR at that point would be to save the platform from dying and taking the info with it.
Then there's the issue of valuation. With TWTR making $2B annually, and rising, perhaps there is some hope? Indeed free cash flow is rising:
However, the growth rate has already peaked:
Thus, moving forward, we can assume that we have hit a growth baseline and can logically calculate that TWTR holders will need to hold the stock nearly 30 years for the stock to actually be fairly valued. I guess if your goal is to think long-term, TWTR might be a good investment for you or for GOOG. But then add in the $30B asking price for TWTR, and… well… your money has better places to go.
For now, I believe a buyout is out of the question for TWTR, barring one situation (below). In this case, TWTR's only hope is for management to study FB and implement a data-driven targeted advertising service for marketers. In addition, it will need to offer something above FB, such as lower prices or targeting methods FB lacks for the company to attract marketers away from the tried-and-true FB ads.
The Last Chance for a Buyout
The one situation that could spark a buyout is if FB steps into the search advertising market. Doing so would put it into direct competition with Google, who would be well-advised to fight back by entering the social media game. In this case, a TWTR acquisition could make sense, though whether it would pay $30B is still questionable… maybe $10B.
In conclusion, CRM dodged that bullet, putting itself back where it originally was - the stock is up $3 on Friday. We look forward to CRM's earnings report, which is likely good in revenue but not so great in earnings. We also look forward to TWTR's death or management purge.
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Note2: All unlabeled figures were created by me from data pulled from Yahoo and ADVN through R. Charts with blue backgrounds are from Etrade Pro.
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I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.