Twilio Inc (NYSE:TWLO) stock got clocked to end 2016. Shares tumbled from as high as $70 to just $28 today, a crushing 60% decline. Is TWLO stock finally cheap enough today, or is there room for even more downside?
On the plus side, numerous analysts are upgrading the firm as the price drops. And a new partnership could reinvigorate the growth story.
But don’t overlook the risks here either. Just because a stock has fallen a long way already doesn’t mean it can’t keep dropping. Before you hit the “buy” or “sell” button on TWLO stock, however, take a minute to consider both sides of the coin.
TWLO Stock Cons
Twilio Doesn’t Have a Moat: Twilio has generated a lot of interest in its services due to affordable pricing. The company is operating with a negative 15% net profit margin. And this figure has hardly budged over the past year, even as revenue has soared. You would expect to see scale effects by this point. One alternative hypothesis is that Twilio has underpriced its services. It doesn’t appear to have a genuine technological moat. Much of what the company does would probably not require excessive effort for its customers to do internally. A company such as Facebook Inc (NYSE:FB) always has the option of building their own message marketing platform. But why bother if Twilio is willing to provide the service at less than cost? However, that sentiment could change quickly the moment Twilio tries to raise prices.
Valuation Still an Issue: One of the issues with low-float IPOs such as Twilio is that the stocks can run far beyond seemingly logical valuations. TWLO stock soared out of the gate, but this was likely mostly due to the limited number of publicly trading shares. Insiders still controlled the vast majority of the company. They’ve been slowly selling more of the stock into the market, depressing the price. However, given that initial pop to $70, many investors have a mental anchor there. They see a drop from $70 to $28 and think it must be cheap now. However, compare Twilio with other firms in its space. Its 9x EV/sales figure is still astoundingly high, and is in fact the highest in its entire peer group. The company’s revenue growth rate is slowing down enough to make it difficult to justify paying up for Twilio’s expensive revenues.
Positive News, But Stock Isn’t Moving: The poor performance TWLO stock has delivered lately demonstrates the valuation issues. The company has gotten a stream of upgrades along with the announcement of a potentially game-changing partnership with Amazon.com, Inc. (NASDAQ:AMZN). More on this below. Despite all the good news, TWLO stock hasn’t gone anywhere. After each bit of positive news or analyst upgrade, the stock pops for a day or two and then gives back all the gains. This is indicative of an overpriced stock. Owners are happy to use any pop to sell, while short sellers show no nervousness.
TWLO Stock Pros
Newsflow Turning Positive: In recent weeks, TWLO stock has seen many positive news announcements. In late December, Drexel Hamilton started the company with a “buy” opinion. Pacific Crest Securities upgraded the firm to start 2017. And just this week, two more firms weighed in, with Canaccord Genuity upgrading it to a “buy,” and Oppenheimer naming TWLO stock a 2017 top pick. If that weren’t enough, in late December, Twilio formed an expanded partnership with Amazon. Amazon Web Services had already partnered with Twilio to deliver text messages for AWS customers. Now that capability will be expanded to include voice messaging, greatly expanding Twilio’s reach within the booming AWS ecosystem.
Short Squeeze Potential: Normally, you see short sellers pile into a stock as it soars. However, that’s not always the case; sometimes short sellers pile onto a plunging stock. That’s exactly what they’ve done with TWLO stock. As TWLO stock peaked in late September, short interest was just 64% of the float. That’s a huge number, yes, but it was about to get bigger. In November, short interest topped 100% of the float (a very rare occurrence). By the end of November, short interest hit 116% of the float, suggesting that for every 5 tradable shares of TWLO stock, 6 had been sold short. This is rather sketchy, as generally exchange regulations prohibit this sort of behavior. Even with the continued weakness in Twilio stock, short interest has hardly budged — the most recent data has it at 8.8 million shares, or 102% of the float. Needless to say, any concentrated effort by these short sellers to dispose of their positions could set off a large rally in the stock.
Earnings Soon: TWLO stock needs something to reset the narrative. Over the past month, Twilio has seen a variety of positive developments, centered around the upgraded partnership with Amazon and numerous stock upgrades. However, traders are still focused on insider selling and the company’s high valuation level. At this point, earnings in a couple of weeks could be the catalyst that finally revives the bull case. Twilio is trading not far off IPO levels now, it’d take some gumption for the shorts to press the stock through that level. On the other hand, given the massive short interest, even a modest beat could send the stock flying. Remember that Twilio initially traded down on earnings last quarter, but buyers appeared shortly thereafter.
Bottom Line on TWLO Stock
Traders have punished TWLO stock over the past quarter. There are certainly reasons to expect the stock could turn around. Short interest is astoundingly high and persistent.
The stock has seen more positive news lately, and earnings could be the mechanism that finally triggers a sentiment shift. However, the company still appears richly priced. And it’s not entirely clear that Twilio will ever be able to ramp to any significant level of profitability. For now, this is a better trade than an investment.
At the time of this writing, Ian Bezek had no positions in any of the aforementioned stocks. You can reach him on Twitter at @irbezek.
