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Twitter Has a Huge Upside From Advertising Uptick

Twitter (NYSE:TWTR) stock has done reasonably well this year, up almost 44% year-to-date. Moreover, the company is benefiting from an advertising uptick in social media apps which bodes well for the stock over the next year.

Smartphone open Twitter application
Source: Sattalat phukkum /

For example, a recent study by Kantar and Pathmatics indicated that social media is making gains in the digital advertising mix. It accounted for 20.9% of all U.S. media advertising in Q2. This is from the record number of U.S. workers at home. This trend is likely to continue.

Moreover, Twitter’s valuation does not look that expensive and it probably has room to run as next year’s positive earnings look more likely.

I estimate the stock is worth at least 25% to 30% more based on its expected free cash flow.

Free Cash Flow Powerhouse

Last year Twitter made $1.87 earnings per share on a diluted share last year. That works out to a net income of $1.47 billion on revenue of $3.46 billion. But that was GAAP income. It benefited from a large one-time tax benefit.

On an adjusted basis, the company made $259 million, or 33 cents per share, after taking out the one-time tax benefit. But more importantly, Twitter produced $762 million in free cash flow (FCF) for the year, according to its 10-K filing with the SEC.

That amount of FCF represents 22% of its $3.46 billion in revenue. This is a huge margin. It also represents 294% of its adjusted net income. That is a huge conversion factor for net income into FCF.

Moreover, as of Q2 ending June 30, Twitter was on track to do well this year with FCF, despite lower stated earnings.

For example, it has produced $160 million in FCF for the first half of the year. This was even though stated adjusted earnings were negative (a loss of $135 million) for the first half of 2020.

So even though FCF was lower during the first half, it was still positive. I don’t even bother looking at earnings any longer since they are almost useless about how healthy a company is with all the non-cash expenses.

This is important since analysts predict that earnings will turn positive during the second half of this year and also next year. Analysts polled by Seeking Alpha expect 5 cents per share in Q3 and a much higher number, around 50 to 60 cents per share in Q4. Moreover, in 2021 they forecast EPS of 68 cents per share for the year.

That means the stock is seriously undervalued.

What Twitter Stock Is Likely Worth

If Twitter makes 68 cents per share next year, that implies net income earnings of $540 million or so.

But given that the company has a super high FCF conversion factor, FCF will likely be 2.5x to 3x this number. That would make FCF next year between $1.35 billion and $$1.62 billion.

We can use this to value Twitter stock. For example, at the end of 2019 Twitter had a $25 billion market value. Therefore, its $762 million in FCF gave it an FCF yield of 3.0%.

Using this FCF yield to value the company’s 2021 FCF gives it a market value of between $45 billion (i.e. $1.35 billion divided by 3%) and $54 billion ($1.62 billion divided by 3%).

Now, Twitter now has about 790 million shares outstanding and by 2021 will likely have 800 million shares. Therefore, its target value will be between $56.25 ($45 billion divided by 800 million) and $67.50 per share.

The midpoint between these two target prices is $61.88. Since Twitter stock is at $46.12 today (Oct. 2) that represents a potential upside of 34% from here.

Twitter’s FCF yield could rise significantly to 2% or even 1.5%. For example, Facebook (NASDAQ:FB) has a 2.5% FCF yield, from its last 12 months FCF.

Using this ratio raises Twitter’s target market cap to $54 billion (i.e. $1.35 billion divided by 2.5%), or $67.50 per share. That is an upside of 46.4%.

Therefore, Twitter looks good value here with a significant upside of between 34% to 46%.

On the date of publication, Mark R. Hake did not have (either directly or indirectly) any positions in any of the securities mentioned in this article.

Mark Hake runs the Total Yield Value Guide which you can review here.

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