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Twitter’s IPO: Another case of misplaced pessimism?

So, heard enough about this Twitter IPO?

I feel as if I have, because we've heard so much of this before. Twitter has fake accounts. Twitter's not profitable. Twitter needs to monetize its content.

It's a lot like what was said about LinkedIn. And Facebook. Including by me, in this column.

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The reason the dissenting voices don't seem quite as loud this time around, I think, is that the folks who dwelled on all the very real risk factors in the social media space left an awful lot of money on the table by passing up the opportunities. And there's no real reason to believe it'll be different this time around.

Let's look back. As LinkedIn prepped its initial public offering in May, 2011, one of the company's top issues was lack of user engagement, as it admitted "a substantial majority of our members do not visit our website on a monthly basis." The company brought in $3 (U.S.) in revenue and 20 cents in profit per member in 2010, but I suggested it would need to provide a more-active user base to make companies and corporate recruiters happy enough to pay.

Well. LinkedIn now has three times as many members. And in the past 12 months, it has recorded well over $5 in revenue apiece. The per-member profit would probably have grown impressively, too, if LinkedIn weren't spending money to make the experience better – and attract even more members. And with a group of "thought leaders," a skills-endorsement program, and discussion groups, those members are more engaged than ever.

That $3-billion valuation that looked expensive to me in May, 2011? I renounced my pessimism last December when LinkedIn hit a market capitalization of around $17-billion. It's now at $25-billion.

And how about Facebook, another stock I was against before I was for it. My first take in February, 2012, was driven largely by this statistic I calculated: It took Facebook almost 800 minutes of user time, more than 13 hours, to get one dollar of revenue in 2011's fourth quarter. "If it doesn't figure out how to take the next steps to evolve its business, we might look back and see the company has missed one of the greatest opportunities in business history."

I changed course on IPO day, buying in at $38 in the belief that the shares should have zoomed from hype, but didn't. (An admittedly tenuous investment thesis, I admit.) It looked bad for some time. Then, in the wake of surprisingly good second-quarter earnings, the shares zoomed back above the IPO price and have since crossed $50.

In my victory lap column in August, I said: "It's almost as if Facebook said, 'Okay, it's time to start making money,' and, as if flipping a switch, did so. It's pretty amazing."

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I think I'm going to coin a term here, borrowing from the literary: Buying social media stocks is "magical realist investing." When you look at the absurd early valuations and the lack of profits, it seems as if it will require magic for the companies to justify the share prices. And then the reality is that the profits really do arrive.

If I do a little math for Twitter, similar to my early Facebook calculations, I find that the company posted revenue of $253-million for the first six months of 2013 as its users tweeted 500 million times a day. That means it takes roughly 360 tweets to generate a dollar of revenue, which actually makes tweets a lot more lucrative than I thought they would be. The company has 218 million "monthly active users," as it defines them, so they've picked up more than a dollar in revenue apiece from them in the first six months.

In some ways, the company seems to be at a better, more surprising point of monetization than Facebook was at a similar point. They're spending money to make more, hence the losses.

These companies, with their large base of users and few costs in adding more, benefit from what's called the "network effect," by which more new users bring more benefits to existing users.

They also have been proven to bring more benefits to existing shareholders.

So we can make the same old points about Twitter and IPO hype and overpriced shares. And then we'll probably look back in a couple years and wish we'd bought in.

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About the Author
Business and investing reporter and columnist

A business journalist since 1994, David Milstead began writing for The Globe and Mail in 2009. During eight years at the Rocky Mountain News in Denver, Colo., he individually or jointly won nine national awards from SABEW, the Society of American Business Editors and Writers. He has also worked at the Wall Street Journal. More


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