Twitter prices IPO at $26 ahead of stock debut

Alistair Barr | USA TODAY

Show Caption Hide Caption Twitter IPO: What it means to you As Twitter makes its Wall Street debut, what does it mean to the average user? USA TODAY's Brett Molina tells you what you need to know about the IPO.

SAN FRANCISCO — Twitter priced its shares at $26 each late Wednesday, setting the stage for one of the largest technology initial public offerings ever.

"We just priced our IPO" the company tweeted, attaching a screen shot of the offering announcement.

Twitter will raise about $2.1 billion from the IPO. That makes it the seventh-largest U.S. tech IPO ever, just ahead of Google, which raised $1.92 billion in its 2004 stock market debut, according to Dealogic data.

Twitter shares are set to start trading on the New York Stock Exchange, under the ticker TWTR, Thursday. Big first-day gains have been expected.

The $26 price values the microblogging service at $18.34 billion, on a fully diluted basis. That is 16 to 17 times forecast 2014 sales, a premium to rivals including Facebook, LinkedIn and Yelp, according to some analysts.

Twitter set an early price range of $17 to $20 for its IPO, which was considered cautious. But there has been strong interest from investors, and the company is not selling much stock, leaving an imbalance between supply and demand. That allowed the company and its bankers, led by Goldman Sachs' Anthony Noto, to raise the range to $23 to $25, then pick a final price above that.

"This leaves less money on the table," said Santosh Rao, an analyst at Greencrest Capital. "It's priced for perfection."

Rao reckons Twitter is worth $21 a share, or about $11 billion, based on fundamentals such as future revenue and earnings. However, he said there is more at play in hot IPOs such as Twitter's.

"There's a supply and demand issue. People have to get involved, and they will rush in to try to get shares, which drives up the price initially," Rao said. "There will be a pop on Thursday probably."

Twitter shares are expected to jump higher than $40 by the end of the first day of trading, according to IG, a firm that lets investors bet on the performance of IPOs ahead of time.

"But there are enough skeptics on the business model of this company that at some point, there will be a sell-off, and investors will be able to get in later at a more reasonable price," Rao said.

Founded in 2006, Twitter has become a global media phenomenon. The service, based around 140-character online messages, is used by presidents, celebrities and CEOs to share and track information in real time. It is often the place where news breaks first, and it has been credited with helping to topple dictatorial regimes around the world.

While Twitter has a broad and powerful influence, its service is sometimes tricky to understand and use, which has limited the company's growth. Twitter has about 230 million users, while Facebook has more than one billion.

Twitter's business model — the way it generates revenue and makes money — is also in its infancy. This makes it difficult for investors to gauge the company's true value. If Twitter's influence and user base grows a lot, and the company develops compelling advertising products that attract the world's largest advertisers, then it could be worth a lot more than $18 billion. But if these things don't happen, the company's valuation could be lower, and its shares may suffer.

"Everyone knows Twitter, and they like it, which means they could value this IPO almost however they want to," said Dan Niles, chief investment officer of AlphaOne Capital Partners. "The valuation is pretty high relative to comparable companies."

However, official projections for Twitter's future revenue and profit, which have been shared by the underwriting banks, may be too conservative. Twitter is expected to generate $1.24 billion in sales in 2015, according to these projections. In contrast, Carlos Kirjner, an analyst at Sanford C. Bernstein, is forecasting 2015 revenue of $1.82 billion.

"It looks expensive, but the estimates are too low," Niles said. "Whichever wins tomorrow, who knows. It's an art not a science."

The IPO was as much as 30 times over-subscribed, according to Dan Miller-Smith, CEO of Syndicate Pro, a research firm focused on IPOs. That means investors ordered up to 30 times more shares than were available to buy in the offering.

"Demand is strong enough that the deal will work, and the stock will rise a lot in the after-market, we think by more than 30%," Miller-Smith added. "The company will have to catch up to this valuation."

"Investors are looking at the future potential market for Twitter, which could be huge, as well as the company's ability to significantly increase its profit margins," he said.

Twitter's adjusted EBITDA (earnings before interest, tax, depreciation and amortization) margins will be roughly 6.5% this year and 8.4% in 2014, according to IPO underwriter forecasts that were shared with investors. In 2015, margins may jump to about 16%, the estimates suggest.

While this seems ambitious, online advertising businesses often exhibit such leverage. Internet companies have to spend a lot to build large audiences and set up ad products and platforms to serve marketers. But once those are in place, it does not cost much more to generate extra revenue, says Brian Nowak, an analyst at Susquehanna Financial Group.

He expects Twitter's EBITDA margin to reach 44% in 2017. That's still below Facebook's profit margins, which were 57% in 2012, the analyst noted.