Sector

Media

Background

@Compound248 is an anonymous professional investor. We cover Twitter's history, why it's delivered negative returns since IPO, and why there are reasons to be optimistic about the platform going forwards.

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Date

February 2, 2022

Episode Number

45

Twitter Business Breakdown

Background / Overview

Twitter, founded in 2006 by Jack Dorsey, Evan Williams, and Noah Glass, emerged from a pivot by podcasting company Odeo after Apple's entry into podcasting disrupted its original business. Initially a group messaging service leveraging SMS (limited to 140 characters), Twitter evolved into a global platform for public discourse, known as an "interest network" where users connect based on shared passions rather than personal relationships. Headquartered in San Francisco, Twitter operates as a tech platform with approximately 7,500 full-time employees (FTEs) as of 2021. It went public in November 2013 and has since navigated a tumultuous history of leadership changes, technical challenges, and shareholder frustration, despite its cultural prominence.

The business has undergone a significant turnaround since 2015, particularly under Jack Dorsey’s second tenure as CEO (2015–2021), focusing on platform health, tech stack modernization, and user growth. By 2021, Twitter reported 211 million monetizable daily active users (mDAUs) and $5 billion in revenue, with a 29% revenue CAGR since its 2013 IPO. However, its stock price has underperformed, trading at $34 in 2021, down from $45 at IPO, reflecting a derating from 40–60x sales to 5x sales due to high expectations and operational inefficiencies.

Ownership / Fundraising / Recent Valuation

Twitter has been publicly traded since 2013, with no single controlling shareholder. In 2019–2020, activist investor Elliott Management and private equity firm Silver Lake took significant stakes, pushing for operational improvements and leadership accountability. Silver Lake injected capital via a secondary offering and convertible notes in 2020, aligning with a decision to retain Dorsey as CEO. As of 2021, Twitter’s enterprise value was approximately $26–27 billion, trading at 5x forward revenue, a stark contrast to its IPO valuation of 40–60x revenue. The involvement of activists has introduced a latent threat of a sale if performance targets are not met, with Salesforce and Disney previously exploring acquisitions (Disney walked away in 2016).

Key Products / Services / Value Proposition

Twitter’s core product is its social media platform, enabling users to post short messages (tweets, expanded to 280 characters in 2017), follow others, and engage in real-time conversations. Its value proposition lies in its role as an interest network, connecting users to niche communities, influencers, and breaking news, distinct from platforms like Meta, which prioritize personal social graphs. Additional products include:

• Advertising (90% of revenue): Primarily brand advertising for large corporates, with emerging performance-based ads (e.g., app downloads).
• Data Licensing (10% of revenue): High-margin SaaS product reselling aggregated user data via APIs.
• Emerging Offerings: Twitter Blue (premium tools subscription), Super Follows (creator subscriptions), TweetDeck (power-user tool, planned monetization), and features like Spaces (live audio), Communities, and shopping modules.

Segments and Revenue Model

Twitter operates as a single-segment business focused on its social media platform, with two primary revenue streams:

1. Advertising (90%): Monetizes user engagement through brand ads (top-of-funnel) and limited performance ads (down-funnel, e.g., app downloads). Revenue depends on mDAUs, engagement per user, and revenue per unit of engagement (RPU).
2. Data Licensing (10%): Sells aggregated user data to enterprises, a high-margin, recurring SaaS product.

Emerging streams include subscriptions (Twitter Blue, TweetDeck) and creator monetization (Super Follows), which are not yet material but represent high-margin opportunities. The revenue model hinges on a network effect flywheel: high-quality creators attract users, whose engagement draws more creators, increasing ad inventory and data value.

Splits and Mix

• Channel Mix: 90% advertising (large corporates dominate, SMBs <0.5% market share), 10% data licensing. Subscriptions and payments are nascent.
• Geo Mix: U.S. users (higher ARPU, ~$70 vs. $17.50 for Twitter) contribute significantly, though exact splits are undisclosed. Non-U.S. markets (e.g., Japan) have higher ARPU than emerging markets.
• Customer Mix: Advertisers are primarily large brands; data licensing serves enterprises. SMBs are a growth opportunity.
• Product Mix: Advertising dominates, with data licensing stable. Subscriptions (Twitter Blue, TweetDeck) and creator tools are emerging.
• End-Market Mix: Media, finance, sports, and entertainment drive engagement, but revenue is not segmented by end-market.

Mix Shifts: Historical reliance on brand advertising is shifting toward performance ads and subscriptions. SMB penetration (<0.5% market share) and down-funnel ads are forecasted to grow, with subscriptions potentially adding $400–500M in high-margin revenue by 2023.

KPIs

• mDAUs: 211M in Q3 2021, targeting 315M by 2023 (~25% annual growth).
• RPU: ~$24/year ($6/quarter), with 5–10% annual growth expected via better targeting and down-funnel ads.
• Engagement per User: Increasing due to reduced onboarding friction, algorithmic timelines, and new features (e.g., Topics, Spaces).
• Development Cadence: Doubling product launches per employee by 2023, evidenced by recent innovations (e.g., Communities, NFT profiles).

Trend: Accelerating user growth (double-digit post-COVID) and RPU growth signal a potential inflection point, though the 315M mDAU target is aggressive.

Headline Financials

• Revenue: Grew from $0.665B in 2013 to $5B in 2021, with a 29% CAGR. Negative growth in 2017 was reversed by 2018, with 20%+ growth expected through 2023.
• EBITDA: Estimated at $1.5B (30% margin) in 2021, with potential for 35% margins if growth investments taper.
• FCF: ~$0.6B in 2021 (12% margin), constrained by high OpEx (50% of revenue) and share issuance diluting returns.
• Long-Term Trend: Revenue and EBITDA growth are accelerating, but margins lag peers (Meta: 40%+ EBITDA margins) due to inefficient cost structures.

Value Chain Position

Twitter operates downstream in the digital advertising value chain, connecting users (content consumers/creators) with advertisers and data buyers. Its primary activities include:

• Platform Development: Building and maintaining the tech stack (modularized since 2015).
• Content Moderation: Ensuring platform health by reducing harassment and abuse.
• Ad Delivery: Serving ads via machine learning-driven targeting.
• Data Aggregation: Collecting and reselling user data.

Twitter’s go-to-market (GTM) strategy relies on self-serve ad platforms for large corporates and emerging SMBs, with API-based data sales to enterprises. Its competitive advantage lies in its interest network, offering unique, real-time content that attracts high-income, educated users, though it lags in targeting and attribution compared to Meta.

Customers and Suppliers

• Customers:
• Advertisers: Large corporates (90% of ad revenue), SMBs (<0.5% market share, growth opportunity).
• Data Buyers: Enterprises purchasing aggregated data (10% of revenue).
• Users/Creators: 211M mDAUs, including influencers, media, and professionals driving engagement.
• Suppliers: Cloud infrastructure providers (e.g., AWS), content moderators, and tech vendors. Supplier power is low due to commoditized inputs.

Pricing

• Advertising: Priced per impression/click, with ARPU at $24/year ($17.50 U.S., lower globally). Brand ads dominate, but performance ads (e.g., app downloads) are growing. Pricing is less competitive than Meta ($70 U.S. ARPU) due to poor targeting.
• Data Licensing: Subscription-based, high-margin, with stable pricing.
• Subscriptions: Twitter Blue (~$5/month), TweetDeck (potential ~$500/year), and Super Follows (creator-driven, variable). Contracts are short-term and flexible.
• GTM: Self-serve ad platforms for corporates/SMBs, direct sales for data licensing, and in-app subscriptions for premium features.

Bottoms-Up Drivers

Revenue Model & Drivers

Twitter generates revenue through:

1. Advertising (90%): $1 of ad revenue comes from user engagement (mDAUs x hours spent) monetized via impressions/clicks. Drivers include:
• Volume: 211M mDAUs, targeting 315M by 2023. Growth from onboarding improvements, algorithmic content (e.g., Topics), and new features (e.g., Spaces).
• Price: ARPU ($24/year) grows 5–10% annually via better targeting, down-funnel ads, and SMB penetration.
• Mix: Shifting from brand ads (top-funnel) to performance ads (down-funnel) and SMBs (<0.5% to 5%+ market share).
2. Data Licensing (10%): Stable, high-margin revenue from enterprise subscriptions.
3. Subscriptions: Twitter Blue and TweetDeck could yield $400–500M by 2023, with near-100% margins.

Aftermarket Revenue: Not applicable, but creator tools (Super Follows) enhance stickiness, driving engagement and ad revenue.

Blended Price: Mix-driven, with U.S. ARPU ($17.50) lower than Meta ($70) due to top-funnel skew. Performance ads and subscriptions will increase blended ARPU.

Absolute Revenue: $5B in 2021, targeting $7.5B by 2023 (20%+ CAGR), driven by mDAU growth (25%), RPU growth (5–10%), and subscriptions.

Cost Structure & Drivers

• Gross Margin: 60–65% (ads slightly lower, data/subscriptions higher).
• Variable Costs: ~35–40% of revenue (COGS: ad serving, cloud infrastructure, content moderation). Driven by user growth and engagement.
• Fixed Costs: 50% of revenue (OpEx: $2.5B in 2021), including R&D, marketing, and G&A. 60% (30% of revenue) is maintenance (platform health, tech stack), 40% (~20% of revenue) is growth (new products, SMB targeting).
• EBITDA Margin: ~30% in 2021, potentially 35% with operating leverage. Lags Meta (40%+) due to high OpEx.
• Cost Analysis:
• % of Revenue: OpEx (50%) is high vs. peers (Meta: 30–35%). R&D and marketing dominate growth spend.
• % of Total Costs: Fixed costs (OpEx) are 60% of total, variable (COGS) 40%.
• Operating Leverage: As revenue grows, fixed costs (30% of revenue) decline as a percentage, boosting margins.

FCF Drivers

• Net Income: ~$0.8B (est., 16% margin) after interest and taxes.
• Capex: Low (~5% of revenue), primarily cloud infrastructure. Maintenance capex dominates; growth capex is minimal.
• NWC: Stable, with short cash conversion cycles due to digital nature.
• FCF: ~$0.6B (12% margin) in 2021, constrained by high OpEx and share issuance. Potential to improve with margin expansion.

Capital Deployment

• M&A: Limited, with small acquisitions (e.g., TweetDeck). Focus is organic growth.
• Share Issuance: Significant dilution frustrates shareholders, treated as a cash cost.
• Reinvestment: $1B in growth OpEx (40% of $2.5B) targets user growth, RPU, and product development, yielding $6–7.5B in annual value (25% accretion at $26–27B EV).

Market, Competitive Landscape, Strategy

Market Size and Growth

• Total Addressable Market (TAM): $600B global ad market (ex-China), growing at GDP+ due to digital share gains. Digital advertising (50%+ of TAM) grows faster than traditional.
• Twitter’s Market: $100B+ digital ad market for social media, with Twitter holding 5% share in large corporates, <0.5% in SMBs. Data licensing TAM is smaller but high-margin.
• Growth Drivers:
• Volume: Social media user growth (~10% annually), driven by internet penetration and mobile adoption.
• Price: ARPU growth via better attribution and down-funnel ads.
• Absolute Growth: Digital ad spend grows ~8–10% annually.

Market Structure

• Competitors: Meta (2B DAUs, $100B+ revenue), TikTok (1B+ DAUs), Snapchat, LinkedIn. Social media is an oligopoly with high barriers (network effects, scale).
• MES: Large, requiring 100M+ DAUs for efficient ad monetization. Twitter’s 211M DAUs are viable but smaller than Meta/TikTok.
• Traits: Regulation (content moderation), macro factors (ad spend tied to GDP), and platform health (harassment, abuse) impact dynamics.
• Cycle: Mature, with digital taking share from traditional. No significant overcapacity or discounting.

Competitive Positioning

Twitter occupies a niche as an interest network, targeting high-income, educated users (U.S. skew). It lags in ARPU ($24 vs. Meta’s $70) due to weak targeting and top-funnel ad skew. Strengths include real-time content and creator engagement; weaknesses include onboarding friction and SMB penetration.

Market Share & Relative Growth

• Market Share: 5% in large corporate digital ads, <0.5% in SMBs. Meta dominates (50%), followed by Google, TikTok.
• Relative Growth: Twitter’s 25% mDAU growth and 20%+ revenue growth outpace the market (~8–10%), but absolute scale lags.

Competitive Forces (Hamilton’s 7 Powers)

1. Economies of Scale: Moderate. Twitter’s fixed costs (30% of revenue) provide leverage, but Meta’s scale is larger. MES requires 100M+ DAUs, limiting new entrants.
2. Network Effects: Strong. Creator-user flywheel (creators attract users, users draw creators) creates a moat. Relationships are platform-specific, hard to port.
3. Branding: Moderate. Twitter’s cultural relevance is high, but ad pricing lags due to attribution issues.
4. Counter-Positioning: Weak. Twitter’s interest network is unique, but Meta/TikTok’s superior targeting and scale challenge it.
5. Cornered Resource: Moderate. Access to high-income users and real-time content is valuable, but not exclusive.
6. Process Power: Weak. Historical tech stack issues slowed innovation; recent modularization improves cadence.
7. Switching Costs: Moderate. Creators face high switching costs due to follower networks; users can switch but value niche content.

Porter’s Five Forces:

• New Entrants: Low threat. High barriers (network effects, scale, capital) deter startups.
• Substitutes: Moderate. Meta, TikTok, and Reddit compete, but Twitter’s interest network is distinct.
• Supplier Power: Low. Cloud and tech inputs are commoditized.
• Buyer Power: Moderate. Large corporates have options (Meta, Google); SMBs need self-serve platforms.
• Rivalry: High. Meta, TikTok, and Google compete aggressively on ARPU and scale.

Strategic Logic

• Capex: Low, focused on cloud infrastructure. Defensive to maintain platform health; offensive via OpEx for product development.
• Economies of Scale: Twitter operates at MES (211M DAUs), with fixed costs (30% of revenue) enabling leverage. Diseconomies are minimal.
• Vertical Integration: Limited, focused on platform and ad delivery. No significant backward/forward integration.
• Horizontal Expansion: Targeting SMBs, subscriptions (Twitter Blue, TweetDeck), and down-funnel ads to diversify revenue.
• M&A: Conservative, with small acquisitions (e.g., TweetDeck). Organic growth prioritized.
• BCG Matrix: Advertising is a cash cow, data licensing a star, subscriptions a question mark with high potential.

Valuation

• Enterprise Value (2021): $26–27B, at 5x revenue ($5B) and ~17x EBITDA ($1.5B).
• Revenue Growth: 20%+ CAGR to $7.5B by 2023, driven by mDAUs (25%) and RPU (5–10%).
• EBITDA Margin: 30%, with potential for 35% via leverage.
• FCF: $0.6B (12% margin), constrained by OpEx and dilution.
• Comps: Meta trades at ~8x revenue, 20x EBITDA. Twitter’s lower multiple reflects execution risk and lower ARPU.
• Upside: $1B growth OpEx generates $6–7.5B annual value (25% accretion). Subscriptions could add $10B (40% of EV) at 20x profit.
• Risks: Missing 315M mDAU target, activist pressure, or sale if targets falter.

Key Takeaways and Unique Dynamics

Twitter’s business model is unique as an interest network, leveraging real-time, niche content to attract high-value users and creators. Its flywheel—creators driving user engagement, which attracts more creators—creates a defensible moat via network effects. However, its economic underperformance (5x revenue vs. Meta’s 8x, $24 ARPU vs. $70) stems from historical technical debt, poor targeting, and top-funnel ad skew. Key dynamics include:

1. Network Effect Moat: Twitter’s interest network is hard to replicate, as creator-user relationships are platform-specific. This drives stickiness, unlike Meta’s social graph or TikTok’s algorithmic content.
2. Under-Monetization Opportunity: Twitter’s $24 ARPU (vs. Meta’s $70) reflects weak performance ads and SMB penetration (<0.5% share). Closing this gap via targeting and down-funnel ads is a $10B+ opportunity.
3. High-Margin Subscriptions: Twitter Blue and TweetDeck could yield $400–500M in near-100% margin revenue by 2023, adding $10B in value (40% of EV) at 20x profit.
4. Tech Stack Turnaround: Modularization since 2015 has unleashed innovation (e.g., Spaces, Communities), reversing 2017’s negative growth. Recent product launches outpace Twitter’s historical cadence.
5. Activist Pressure: Elliott and Silver Lake’s involvement sets a 2023 deadline (315M mDAUs, $7.5B revenue), with a sale looming if targets are missed.
6. Friction Reduction: Onboarding improvements (e.g., Topics) and platform health (less harassment) drive 25% mDAU growth, critical for ad inventory.
7. SMB Blue Ocean: Penetrating SMBs (<0.5% to 5%+ share) requires self-serve, performance ads, unlocking a $50B+ market.

Critical Insights:

• Twitter’s cultural relevance exceeds its economic scale, but execution risks (aggressive mDAU targets, cost structure) threaten its runway.
• The shift to performance ads and subscriptions diversifies revenue, reducing reliance on volatile brand ads.
• Operating leverage (30% fixed costs) and low capex (~5% of revenue) support margin expansion, but high OpEx (50% of revenue) lags peers.
• The creator-user flywheel is Twitter’s core advantage, but Meta/TikTok’s scale and targeting prowess challenge growth.

Twitter stands at an inflection point, with a rebuilt tech stack and activist-backed plan offering a decade of compounding potential if execution delivers. Failure risks a sale or continued underperformance in a competitive landscape.