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Should You Buy Twitter Stock? 3 Pros, 3 Cons (TWTR)

At the beginning of the year, things were not looking so good for Twitter Inc (NYSE:TWTR). The company was experiencing lagging user growth and losses continued to mount. But lately, the situation has been getting more promising. For the year so far, Twitter stock is up a sizzling 36%.

Should You Buy Twitter Stock? 3 Pros, 3 Cons (TWTR)In fact, tomorrow is the Twitter birthday. Nine years ago, entrepreneurs Jack Dorsey, Evan Williams, Biz Stone and Noah Glass launched the platform. The venture was actually the result of a two-week brainstorming session — as the founders tried to figure out what to after their other start-up was on the verge of failure.

Yet Twitter was not an instant success story. Perhaps the reason was that the service was fairly unique. Hey, who needs to send messages with 140 characters?

Well, as it turned out, lots of people!

OK, but what about Twitter as an investment? Even with the recent surge, is there an opportunity here? Or should investors hold off? To see, let’s take a look at the pros and cons:

Twitter Stock Pros

Brand and Platform. TWTR is a mega global brand, which has provided a tremendous barrier to entry. It certainly helps that the service has become a critical distribution system for media organizations and entertainment platforms. But TWTR is also something that many celebrities, athletes and journalists use to communicate with their audiences. In terms of the scale on TWTR, it is massive. Keep in mind that it logs about 500 million Tweets per day — and 80% come from mobile devices.

Monetization. Despite much skepticism, TWTR has shown that it is adept at cranking out dollars from tweets. In the latest quarter, revenues surged by 97% to $479 million and adjusted EBITDA came to $141 million. Then again, TWTR is a real-time advertising network, which allows sponsors a cost-effective way to reach large audiences. There is also the “two screen” phenomenon, which is when people tweet while watching television. But there is lots of runway left for TWTR monetization, especially in foreign markets. Consider that 64% of total ad revenues come from the U.S.

Mobile. Since Twitter began nine years ago, the company has been mobile-first. In other words, there has not been any of the headaches of transitioning from the desktop. As for building on this advantage, TWTR has been very active. First of all, the company recently launched Fabric, which is a system that allows for development of apps. Some of the features include components for logins, storage and analytics. But of course, Fabric will provide for a seamless way for developers to add TWTR advertising, which should help boost monetization. Next, the company has been investing heavily in video, which is becoming a extremely popular on mobile devices. Part of the strategy has been with acquisitions, such as for Vine (which provides short-form videos) and Periscope (a top provider of live-video streaming). But TWTR has also recently rolled out native mobile video capability, which allows for sharing and editing.

Twitter Stock Cons

User Experience. This is always a delicate balance for social platforms. After all, MySpace imploded because of a chaotic user experience. But TWTR could also be facing the same peril. Have you noticed that your timeline has gotten more crowded with ads or Tweets that seem mostly to be noise? Well, this is the view of one of Twitter’s early investors, Gary Vaynerchuk. At a recent conference, he said that the service has turned into a “massive firehose.” And the result?  He thinks it could actually cause TWTR to “die”!

User Growth. It continues to be sluggish. In the latest quarter, TWTR added only 4 million new users, for a total of 288 million. No doubt, if the company cannot rev things up, it will be tougher to monetize the base. Now it’s not clear why TWTR is having problems with user growth. Although, one possibility is that the service’s value is primarily event-driven. So if there is an Olympics or World Cup, then there will be a flood of people signing up and using the service. But after the event ends, there may not be enough interest to continue. But TWTR does have more competition, especially from Facebook Inc’s (NASDAQ:FB) Instagram. The service has become extremely popular with celebrities and athletes.

Valuation. Twitter stock is far from cheap. Consider that the forward price-to-earnings ratio is at a hefty 60x. Thus, if there is a slight deceleration in momentum, there could be a sizeable drop in Twitter stock. And yes, the company has history of volatility with its earnings reports. TWTR also has a high valuation relative to other social media highfliers. For example, Facebook trades at only about 30x.

Verdict on Twitter Stock

For the TWTR birthday, there is lots for the company to celebrate. Much has been accomplished in a short period of time. If anything, TWTR is positioned nicely for the megatrend of mobile. There should also be much opportunity in foreign markets.

But there are still issues. Again, there is the possibility of suffering the ills of a MySpace scenario. What’s more, TWTR continues to have issues with user growth, which could stunt monetization.

So should you buy Twitter stock?

Not now — the risks outweigh the benefits, especially given the high valuation.

Tom Taulli runs the InvestorPlace blog IPO Playbook. He is also the author of High-Profit IPO StrategiesAll About Commodities and All About Short Selling. Follow him on Twitter at @ttaulli. As of this writing, he did not hold a position in any of the aforementioned securities.

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