Stock Pick: Think twice before bailing out of Twitter (TWTR)

This bird isn't grounded yet

Chart showing Twitter stock performance since November 2013Minutes after Twitter’s (NYSE: TWTR) executives revealed the company’s third quarter numbers on February 5, this once-hot stock’s price tanked. It swiftly dropped by about 8% in after hours trading and by Friday morning it was down nearly 20%. Whoever’s holding on to the company is probably panicking, but you may not want to ditch this stock just yet.

First the good news: It’s $242 million in revenues beat consensus estimates by about $22 million and it made a whopping 116% more than it did the year before. Adjusted EBITDA of $44.7 million also beat estimates and earnings per share of $0.02 were above expectations as well. The company also revealed that 75% of its ad revenue comes from the all-important mobile channel, which is important.

There was one big negative, though, and it’s the reason why many people are panicking. No, it’s not the $645 million net loss it incurred in 2013, which analysts expected. It’s the slowing user growth. Twitter revealed that its number of monthly active users hit 241 million in Q4, which is up about 4% since the Q3. That’s a big drop from the 10% growth seen earlier in the year. Even more troubling, say some analysts, is that timeline views were down 7%, which suggests that the people who are using Twitter are using it less than they used to.

Graph showing Twitter's Monthly Active Users
Chart showing growth rate of Twitter MAUs

So what does this all mean? It depends who you ask. Heath Terry, an analyst with Goldman Sachs, thinks the company is still a buy. He points out that while timeline views were down, other measures of engagement, namely retweets and favourites, were up 35%. He also points out that advertiser-driven engagement was up 76% year-over-year, while domestic ad revenue and international monetization jumped 73% and 139%, respectively.

Slower user growth is a risk, he writes in a February 6 report, but he thinks the changes that Twitter has said it would make—improving content discovery, enhancing direct messaging and making it easier for new users to adapt quickly—will boost growth going forward.

Daniel Salmon, an analyst with BMO Capital Markets, is less bullish on the recent results. He has a market perform rating on the stock, but says the Q3 numbers are negative. “While revenue and EBITDA performance was stronger-than-expected this quarter, it does not compensate for slowing monthly average user trends,” he wrote in a February 6 report. “Management offered lots of confidence in reaccelerating those figures, but that will likely become a ‘prove it’ story that will make stock outperformance challenging in the meantime.”

He still thinks Twitter is a powerful platform, especially when it involves bringing people together for television and breaking news events, but it could give investors a rough ride in the near-term. “Continued caution is warranted,” he writes. At the moment only 18% of analysts say it’s a buy, 34% say it’s a hold and 46% say it’s a sell.

Companies like Twitter—trendy businesses with high expectations—are more prone to big stock declines on mixed results than other operations. If you can stomach that volatility and believe that Twitter will be able to attract new customers, then hang on. You’ll likely see a big bounce back if things go right. You may still want to hang on for at least a little while, even if you’re not extremely confident. Since most of the sell off already happened—the stock was actually up 6% by mid-day on February 7—it’s unlikely it will plummet further. It might be best to wait and see how the next set of numbers play out.