What factors do we need to discuss when evaluating a tech company’s IPO?
Discussing Twitter’s upcoming IPO by telephone with a journalist the other day, and trying to put together a picture as to how the share offering might pan out, I found myself trying to mentally organize the factors that I tend to use for these kinds of diagnoses. After hanging up, I realized I could compile this list more systematically. While bearing in mind that I am no expert in the financial markets and that I have no intention of trying to provide an exhaustive guide to the price or value of shares, I can still add some value to the issues that I believe should be borne in mind when these kinds of companies, which often challenge the conventional rules of financial analysis, decide to go public.
In the case of Twitter, which I will use as an example for this exercise, we need to bear in mind that we still lack any financial information on the company, which has decided to make use of the recent JOBS Act that allows companies with less that a billion dollars turnover to make use of a confidential process when requesting their IPO, a procedure that according to those who designed it, was not conceived with companies like Twitter in mind. The price that Twitter’s shares will finally reach will depend on many factors, such as the strategies of the banks that are overseeing the IPO, an aspect that has been analyzed today by the well-respected Aswath Damodaram, but what we know about the company’s history allows us to make some generalizations about the main issues that will affect its future.
In the first place, the characteristics and potential of the market. In the case of Twitter, we are talking about a company with some 250 million users, much lower than Facebook’s 1.2 billion, but with major growth potential. Twitter’s user base has been growing since the get go, reaching out to new demographics all the time. It has colonized the young market that initially didn’t seem interested in the service, has brilliantly exploited the celebrity market, and has even made inroads into international diplomacy. Could Twitter reach out and capture the mainstream market of the general public? As Twitter consolidates its “follow your interests” value proposal and improves via the use of filter and recommendation technology, I think that the growth potential is very high, and still far from the saturation curve.
Secondly is the matter of its business model. Twitter’s turnover forecast for this year is around $600 million, and for $1 billion for 2014. How does it do it? Basically through a small portfolio of products: promoted accounts, promoted tweets, and promoted trends, which for the moment, due mainly to its pricing structure, have received significant attention mainly from large companies with big advertising budgets. Twitter has recently begun to make efforts to increase its advertising base, developing contracting and segmentation structures that could popularize its model for other, smaller companies, a possibility that still has a long way to go.
What’s more, Twitter could develop other models such as becoming an information provider, similar to the deals that Microsoft and Google closed, making them providers of instant search results; equally, Twitter could do deals with television channels or other third parties that would give it an image of instant relevance in some areas that could prove crucial.
Third point: the quality of its management. Twitter is obviously a well-run company. A solid history, no shakeups, no scandals, or activities that might worry its users, the company has carried out a very ordered transition since its foundation by Jack Dorsey, Evan Williams, and Biz Stone, up to the growth and development led brilliantly by Dick Costolo: different phases and dramatically different leaders. Over the course of its history, the company has carried out 31 acquisitions, the majority of them small companies with a product that fitted the strategic needs of the company, and that were basically about incorporating their workforce. With them, the company has put together a very talented team, highly motivated, and that sees itself as part of a big project that knew when to bring them on board.
Fourth: ownership structure. An IPO will bring in resources that will in part go to those who made the company what it is. In the case of Twitter, the IPO will doubtless make a lot of money for the many investors who saw the company’s potential, as it will for many of the company’s employees, although no figures are available. We can only hope that this windfall will not prompt a “take the money and run” effect that could lead to a brain drain.
Fifth point: image. The company has worked hard to create a friendly image; one of a company that looks after its clients, and that makes a constructive contribution to knowledge development. Far from being a purely external issue, this positive aspect of the company is more important in terms of the market’s response or in terms of widespread acceptance than it might at first seem.
There are obviously other factors to be taken into account, but these are the ones that intuitively I would first look at in a case like this: the aspects that I tend to take into account before answering the typical “negative, neutral, or positive” type of question. These points would also have to be added to any data on the development of the business so far, which in this case we will have to wait a little longer for, although not long. Based on this brief analysis, Twitter’s IPO looks likely to me to be a success, although needless to say, this will depend fundamentally on the share price and the way the event is handled.