News at Smith

UMD Business Expert Breaks Down Twitter IPO

Sep 19, 2013
World Class Faculty & Research



COLLEGE PARK, Md. - Twitter Inc.’s highly anticipated initial public offering could benefit from strong stock market performances by social media peers, including Facebook’s rebound from a disappointing IPO, said Gerard Hoberg, associate professor of finance in the University of Maryland's Robert H. Smith School of Business. 

Facebook, said Hoberg, is a "superb comparison" to the seven-year-old microblogging platform serving 200 million-plus users -- many in commerce, government and the celebrity world for strategic messaging. "Both firms are relatively young and vibrant in a social media area, where stock prices have surged this year for companies such as LinkedIn (up 120 percent) and Yelp (up 240 percent)." 

The same day that Twitter filed IPO documents, Facebook stock traded above $45, a record high for the company whose share price had dropped to $17.55 from its $38 IPO in May 2012. "Investors will surely remember the early failures of the Facebook IPO, and will be a bit more cautious this time around," Hoberg said. "Yet Facebook's recent strong performance will offset these concerns." 

Serious investors will try to extrapolate and compare the expected growth trajectories of those two firms. "In a sense, they will use Facebook, with its known stock price, to estimate Twitter's value," Hoberg said. "Perhaps experts will even consider the extent to which these firms will ultimately become rivals." 

Hoberg, who served as a visiting economist last year with the Securities and Exchange Commission and whose research focuses on initial public offerings, describes other implications of a Twitter IPO: 

How going public changes Twitter

“Going public will dramatically change Twitter’s access to capital markets, as well as its public perception. Publicly traded firms can issue equity to fund new investment, or to fund acquisitions. It can also use its own stock as a way to buy other firms that it may wish to merge with. These issues increase Twitter’s flexibility and allow it to be more agile in its market. For example, if Twitter sees the need to merge with another firm in order to stay competitive, a stock swap merger permits the transaction to go through without having to raise a substantial amount of cash, which would be prohibitive for a private firm. On perception, you will have many institutional and retail investors reading its financials once the company moves beyond the secret phase of the IPO process. This will increase the publicity received by the firm, and perhaps also public confidence in the strength of its business model. In turn, this may help to secure its market share.” 

Is the Twitter IPO a good investment?
“For an online business, confidence in the firm's ability to grow its revenues and profits is critical. The IPO filing documents, once public, will be read carefully to assess growth. Investors will want to see evidence of:

  • Large potential gains in new markets, or in penetration
  • New sources of revenues that the managers can harvest with confidence. 
  • Whether Twitter plans to use the IPO proceeds to fund major new investments (These investments, though high-risk, would have substantial upside) 

The Underwriter Effect

“IPOs perform better when the underwriters backing the transaction are more prestigious. Goldman Sachs’ lead role, with other blue chip underwriters like Morgan Stanley and JP Morgan, indicates the Twitter IPO will be well priced at its launch and thereafter. The Facebook IPO was a recent example of this not going as expected, and I would expect that the underwriters have learned from that experience and will work doubly hard to ensure Twitter's launch is a decisive win for IPO investors. These underwriters are fully aware that a second weak IPO launch will tarnish their blue chip reputations, so they will likely build in an extra precautionary discount into the initial pricing, and more market stabilization into the aftermarket.” 

In Conclusion

“In past decades, evidence shows IPOs are poor investments on average. However, this no longer appears to be the case. Although they are volatile investments, IPOs tend to perform about as well as seasoned industry peers on average.  I don’t expect today's IPOs to be any different. In addition to having high-profile underwriters, IPOs perform better when insiders are selling fewer of their own shares in the IPO (i.e., when most or all IPO proceeds are used to fund new investments and not insider sell-outs).”


About the University of Maryland's Robert H. Smith School of Business 

The Robert H. Smith School of Business is an internationally recognized leader in management education and research. One of 12 colleges and schools at the University of Maryland, College Park, the Smith School offers undergraduate, full-time and part-time MBA, executive MBA, online MBA, specialty masters, PhD and executive education programs, as well as outreach services to the corporate community. The school offers its degree, custom and certification programs in learning locations in North America and Asia.