The Social Media Stock With 75% Upside Potential

Joseph Hogue's picture

Tuesday, January 6, 2015 - 1:30pm

by Joseph Hogue

 

It was a tricky year for social media stocks. The top players continued to generate robust growth in user statistics. Yet  many social media platforms have yet to translate traffic to real monetization and revenue growth.

 

Facebook, Inc. (Nasdaq: FB) is the obvious exception. The company delivered a range of solid growth metrics, and its shares have risen  more than four-fold from 2012 lows.

 

The rest of the group hasn't kept pace.  Shares of Yelp Inc. (NYSE: YELP) were down roughly 20% last year and professional platform LinkedIn Corp. (NYSE: LNKD), which continues to cement its industry leadership, was only able to squeak out a 7% gain.

 

In a moment, I'll mention my favorite social media stock for the year ahead, even though its shares sank more than 40% in 2014.

 

Social Media: Growth Without Monetization Is Meaningless

It's important to remember that Facebook was a dud with investors -- until it took off like a rocket.

 

The company went public in May 2012, opening to the biggest media hype in years before plunging 53% by year's end. Huge growth and scale potential drew investors into the IPO, but shares tanked when growth started to slow and investors got worried about monetization.

 

It wasn't just Facebook. Shares of Yelp surged 64% on its first day of trading in early 2012. Shares then drop 36% over the next three months and traded sideways for more than a year. Shares of LinkedIn fell 33% in the six months after its IPO and dropped 41% in the eight months to May of last year.

 

The key lesson learned: Investors have no faith in a social media company unless it can show strong revenue growth to corroborate its traffic growth. Though when it can show revenue growth, shares can soar.

 

Two catalysts came into focus for Facebook toward the end of 2012: The site implemented real-time bidding to better target advertisements to certain markets, and Mark Zuckerberg made the commitment to grow the company's share in smart phones. Shares rebounded into the close of 2012, then jumped 82% in 2013 and tacked on another 43% last year.

 

The Next Facebook Moment

Investors in Twitter, Inc. (NYSE: TWTR) are losing faith in the company and shares have languished. The stock is the worst performing in the space last year, down 20% from the IPO.  Shares currently trade for less than half its 52-week high. The 140-character platform is still booking solid traffic growth, but revenue growth has failed to impress investors.

 

That could all change in 2015.

 

At stake is a metric called monthly active users (MAUs), the most common measure for social media traffic. Facebook is the undisputed powerhouse with more than 1.3 billion MAUs, but Twitter is no slouch with 271 million MAUs as of the end of fiscal 2013.

 

While Twitter has managed to grow traffic and revenue at a compound annual rate of 43% and 74%, respectively, from 2011 through 2013, the metric investors fixate on is revenue per MAU. Facebook is able to squeeze $5.97 of sales out of each monthly active user. By comparison, revenue per MAU of $2.45 at Twitter and $2.43 per MAU at Yelp leaves a lot to be desired.

 

 

But there is good reason to believe that Twitter only needs a little time before it finds a way to boost monetization of its traffic.

 

Twitter's launch lagged Facebook by two years and it is still developing its business model. The company sells three promoted products and licenses user data.

 

The company has started to expand into other revenue ideas as well. Twitter launched its Fabric Developer Tools, it developed a "Buy" button to purchase items seen on Twitter and funded the MIT Media Lab with $10 million.

 

Despite the lagging stock price, Twitter is surely gaining the right traction. Revenue was up 107% in 2014 and is expected 66% higher to $2.3 billion in 2015. Sales are growing at a much faster pace than MAUs, which means that the company is finding new ways to make more money for its traffic. Twitter is expected to have 390 million active users in 2015. If MAU per user can rise to $5.90, then revenue could more than double.

 

Still, management is under the gun to deliver. Failure to post robust growth might mean CEO Dick Costolo does not make it through the year. The only way Costolo could save his job is by unveiling an aggressive monetization strategy. Either way, investors will likely win on a big bump in the stock price. (As my colleague Dave Sterman recently noted, share prices often get a big bump when a reviled CEO is shown the door.)

 

I will be the first to admit that Facebook hosts the more robust experience. Twitter may have a more difficult time building engagement on 140 characters. Still, with revenue growth more than twice that of Facebook, the potential is there.

 

Shares could rise to around $70 on a price-to-sales multiple of 19 on expected sales of $2.3 billion next year. I would be a buyer anywhere under $45 leading up to quarterly earnings.

 

Risks To Consider: Shares of Twitter could remain weak until some form of a turnaround strategy is unveiled, so patience may be required.

 

Action To Take --> The market is losing faith in Twitter, just as it lost faith in Facebook before two big years of gains. The company is still booking solid growth and is undervalued compared to its social media peer.

 

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Joseph Hogue does not personally hold positions in any securities mentioned in this article.
StreetAuthority LLC does not hold positions in any securities mentioned in this article.