Last September, Twitter Inc (NYSE:TWTR) looked ripe for a buyout. Rumors leaked that salesforce.com, inc. (NYSE:CRM) or Microsoft Corporation (NASDAQ:MSFT), among others, would buy the microblogging giant. Salesforce seemed the likely buyer, as it would have filled a void in the company’s social networking.
Once TWTR traders got hold of a possible bidding war, Salesforce did what was best for shareholders by dropping off the list of potential buyers.
Microsoft, meanwhile, went on to buy LinkedIn for $26.2 billion.
Renewed buyout hopes resurfaced this month, however, when Alphabet Inc (NASDAQ:GOOGL, NASDAQ:GOOG) said it would buy Fabric on Jan 18. So, why did Twitter not sell itself and give Fabric away for free?
Twitter’s brand is powerful, but users are migrating from Facebook to Instagram and Snapchat. Fixing Twitter will require too much money and energy, even for a $550 billion dollar company like Alphabet, which simply does not have the appetite to compete against Facebook Inc (NASDAQ:FB).
But Fabric is a mobile developer platform whose strength is in performance tracking. Buggy apps get fixed fast on this platform, thanks to the superior bug reporting. By focusing on its core competency of mobile app development, Alphabet will continue finding growth in mobile.
Twitter’s Cash Balance Goes Up
Twitter’s sale of Fabric is puzzling because it does not need to sell assets to survive. The microblogging site generates positive cash flow, has over $5 a share in cash and trades at a book value of just 2.5 times. FB’s price-book ratio is around seven.
When Twitter reports quarterly results on Feb. 9, it will likely report another quarter of positive FCF. Still, both GOOG and TWTR benefit from the Fabric sale. Twitter divests itself from a non-core business and Alphabet gains another tool for mobile.
Alphabet Buying TWTR Makes Sense
Twitter’s real-time news and user post signals benefit Alphabet’s search engine algorithm for news. Projected to report slowing growth in the next five years, GOOG has plenty of resources to make Twitter a better social network.
|Fiscal Years Ending||Dec-15||Dec-16||Dec-17||Dec-18||Dec-19||Dec-20|
|% of Revenue||-3.1%||28.0%||29.9%||31.4%||35.6%||40.0%|
Assuming a discount rate as low as 10%, Twitter is worth at least $20 a share:
|Selected Discount Rate||10.00%||9.00%||8.00%|
|Implied Fair Value||$21.49||$26.86||$36.83|
You may access the model and enter your own assumptions here.
Bottom Line on TWTR Stock
Few shareholders have any faith Twitter’s business will get better. Its CEO is only part-time and management is not capitalizing on shifting trends. This weakens TWTR against Instagram and Snapchat.
Management has lots of work ahead before remaking itself as a top destination for real-time news and commentary. Until the company wins back users from the other sites, TWTR stock will trade at a discount.
As of this writing, Chris Lau did not hold a position in any of the aforementioned securities.