$TWTR Q1 Earnings Preview

by Dan April 26, 2016 10:53 am • Commentary• Trade Ideas

Event: Twitter will report their Q1 results tonight after the close.  The options market is implying about an 12% one day post earnings move, which is a tad rich to the 4 qtr one day average move of about 10%, and slightly below the 13% average over the 9 quarters the company has been public. Following 7 of those 9 quarters the stock has declined on average about 11.9% and on the 2 instances the stock has risen the average move has been about 18%.

With the stock at $17.50, the April 29th weekly 17.50 straddle (the 17.50 call premium + the 17.50 put premium) is offered at $2.25. If you bought that, and thus the implied move, you would need a move to $19.75 or below $15.25 to just break-even.

Price Action / Technicals:  The stock has been an unmitigated disaster, down about 76% from its late 2014 post ipo highs, and down an eye-popping 25% in 2016.   Following their Q4 report the stock made a new all time low, trading very near $13.50, had a quick 50% rebound to just above $20, and has since settled at very near the mid-point of its post Q4 earnings range:

TWTR 1yr chart from Bloomberg
TWTR 1yr chart from Bloomberg

To my untrained eye, the Aug 24th low, which was also the early Jan breakdown level, and very near the early March high, should serve as staunch technical resistance on the upside, while the all time low made in Feb should serve as support to the downside.

Sentiment:  Wall Street analysts are fairly mixed on the stock with 15 Buy Ratings, 25 Holds and only 3 Sells, with an average 12 month price target of $21.  Short interest sits at 10% of the shares outstanding.

Fundamentals:  To be clear, they are in flux. Last year’s management turnover came alongside fairly large strategy changes, which so far hasn’t shown signs of increased user engagement, and certainly has not grown active users.  Bulls on the stock will speak to very healthy revenue growth, about 58% year over year in 2015, with an expected $3 billion in sales in 2016, growing 33% year over year. User growth and engagement, both things that Facebook is growing in a flawless manner, have been elusive for TWTR, making it a distant second for social ad budgets, and the reason the stock has barely seen an uptick since last Spring.

Current management needs more time to implement product tweaks and new verticals. They also need to be laser focused on making the platform more easily understandable to inactive existing and potentially new users. There are massive benefits of the platform compared to other social networks but ease of use is crucial to go after the elusive demographics they’ve so far had trouble with and re-accelerate growth.  Could this quarter be the sort of ah-ha moment that many are waiting for? Much like Facebook’s (FB) Q2 2013 results, when the stock was in the crapper, yielding a 30% one day move, and the stock never looked back? Probably not. The problem for FB was not user growth and engagement, it was monetization on  mobile, which was nascent, and the once the company flipped the switch, it was lights on.  Very different issues face TWTR as it’s more product related:

From Bloomberg
From Bloomberg

Expectations from Bloomberg:
-1Q adj EPS est. 10c (range 7c-18c)
-1Q rev. est. $607.5m (range $595m-$619m), co. forecast $595m-$610m (Feb. 10)
-1Q Ebitda est. $157.3m (range $151m-$173m), co. forecast $150m-$160m (Feb. 10)
-1Q monthly active users (MAU) est. 308m, or 1.0% growth q/q (avg of 5 ests. compiled by Bloomberg News)
NOTE: TWTR said last quarter that it will exclude SMS Fast Followers from MAU total going forward; in 4Q, SMS Fast Followers accounted for 15m of 320m MAUs
-2Q rev. est. $677.1m
-2Q Ebitda est. $172.8m

My View:  Sentiment is so poor (both buy and sell side), the technical set up is benign and short interest high. Those are the ingredients for an epic short squeeze. But it won’t just happen. The company’s current inertia needs to be broken up in a big way. They seem to know that and are working on it, but there’s probably nothing in this past quarter’s earnings to suggest they’ve made the big moves necessarry.

2016 is a big year for TWTR to demonstrate the value of their platform. With the US elections and the Olympics this Summer they have a massive opportunity to bring their domination of LIVE events to a much bigger audience.  Recent deals like the one inked with the NFL to stream like Thursday night games is one such Trojan horse to a brand new audience. They can’t waste that opportunity with the product as is.

I remain long the stock, and bullishly positioned with options, waiting for that Ah-Ha moment, which I think management gets and it’s just a matter of implementing. I am using trade structures that offer leverage, with room to the downside. Here was the most recent trade structure from late February after the stock bottomed (here).

On reason why I like the idea of ignoring near term close to the money swings in the stock to concentrate for a breakout in the future is TWTR has so many opportunities to take off, and not just with internal product tweaks. TWTR, with an enterprise value of just $10 billion, seems completely disconnected to its replacement value for a large media company. It has long been my view that Google, in particular, should buy TWTR. It would solve a few of their core businesses massive blind spots like erosion to broader search by real time search. It also adds another in app search in mobile, helps with their lack of social offerings, adds an opportunity to leverage YouTube videos (and live video) and helps with their lack of short messaging app (to name just a few!).  With founder Jack Dorsey’s return to TWTR last fall, a deal like this seems unlikely, for now. They seem committed to leveraging the existing product first. And because of that I’d expect the company to be more of an acquirer than an acquiree in the near term and deploy some of their $3.5 billion in cash.

I’d be wary of looking at TWTR on a PE basis when it comes to valuation, on an adjusted basis it looks like 31x expected eps growth of 37% in 2016, but on a GAAP basis eps swings from an expected 55 gain to a 55 cent loss.  At about 4x expected 2016 sales, TWTR trades at a massive discount to FB’s 12x, and 10x ev/ebitda to FB’s 14x.

And speaking of new product verticals, if the company can show some momentum in monetization of video, and point to success like the ones described in this article, investors might start to overlook stagnant user growth:

In sum, I remain very bullish on the product and the platform long term. What they need is time to make material improvement in their user issues.

We will be sure to update this trade idea. And we’ll follow this post with a post on trade ideas for those currently positioned, or have directional inclinations. Stay Tuned.

Oh and if you missed this from CNBC’s Fast Money two weeks ago, this is how I use Twitter during the trading day: