The trouble with Twitter's IPO

Public offerings are a rigged game, and we're the suckers

By Andrew Leonard

Published November 1, 2013 5:34PM (EDT)

          (Reuters/Ognen Teofilovski)
(Reuters/Ognen Teofilovski)

Sometime next week, Twitter will finally have its long-anticipated IPO moment. The timing is right. A string of reasonably successful public offerings in the tech sector in recent months have fueled anticipation. The tech-dominated Nasdaq stock exchange is hovering near the 4,000 mark, territory last reached at the height of the dot-com boom. Facebook, much reviled for its debacle of an IPO in 2012, now boasts a share price higher than where it opened last year. Billions of dollars are pouring into mobile advertising, and Twitter is perfectly positioned to grab a big chunk of that burgeoning revenue stream.

Salon is not in the business of predicting stock market performance, but we certainly can't rule out the chance that Twitter's stock price could "pop" on IPO day -- doubling or even tripling. Twitter is an important company with real, and growing revenues: $422 million in the first nine months of 2013, more than double the previous year's numbers. I've watched the 37-minute Twitter road show video, and I found little to scoff at. I agree with CEO Dick Costolo: Twitter is a "world-changing global communications platform." This isn't or all over again. Twitter has 230 million "monthly active users" for good reason. The service is not only both useful and addictive, but it is designed to prosper in the age of mobile.

But does that mean you should try and get a piece of the IPO action for yourself? Is it time to call your broker or place some buy orders on Etrade? Take a flyer? Who knows -- if you could just get on the right side of that pop and then sell high, you could make a killing!

If only. #NotSoFast. Yes, Twitter has a nice headquarters building in San Francisco and has become an essential part of modern digital life. But just because Twitter isn't a scam of dot-com boom proportions doesn't make investing in the company a wise move for you or me, either in the short term or the long term. Here are two good reasons why.

1) IPOs are a rigged game, and you are the sucker.

2) Beware of social media business models based on advertising. Just one mild recession, and Twitter's growth curve could flip directions, in just the time it takes for Anthony Weiner to tweet a photo of his junk.

Let's start with the more-than-questionable premise that IPOs are a sensible investment opportunity for ordinary citizens. We'll begin with a review of the three banks that are the main underwriters of Twitter's IPO.

Goldman Sachs, JPMorgan and Morgan Stanley.

They are not your friends.

Roughly speaking, there are three main beneficiaries of an IPO. There is the company itself, which, theoretically, raises gobs of cash to fund its ongoing march to world domination. There are the preexisting investors in the company -- the venture capitalists and angels and other clever money men who got in early and now have the chance to make their profitable "exit." And then there are the favored clients of the underwriting banks who get to buy in at the opening IPO price and, if all goes right, pocket nifty profits by flipping their shares shortly thereafter.

Where do you fit in that equation? Easy! You're the mark! You're the hype-addled fool that Goldman Sachs is taking advantage of to steer a bonanza to its favored crew. You're the one that makes that "flip" possible. And you're not getting in on the ground floor; most likely, you'll jump on that elevator once it's already halfway up. If you're lucky and smart, you might get off the elevator before it starts plummeting back to earth. But there are no guarantees -- except for the undeniable truth that the last one in gets burned for sure.

Why, with all the evidence we have accumulated over the years on how Goldman Sachs, JPMorgan and Morgan Stanley manipulate financial markets to their own benefit -- often at the expense of even the companies that are supposed to be raising money from their IPOs -- would we voluntarily participate in their schemes? It's crazy-making. When you see the name Goldman Sachs attached to an IPO, check your pockets. You've probably already been robbed.

* * *

Now let's talk about advertising.

On Tuesday, with just a week or so to go before the IPO, Twitter introduced a significant user-interface design tweak. Suddenly pictures and video started showing up in the Twitter feed. If you happen to follow a significant number of people who like linking to pics and Vine videos in their tweets, the effect on the Twitter experience was dramatic. Instead of a stream of 140-character text messages, suddenly there was all kinds of colorful drama and action in your feed.

As Mat Honan pointed out in Wired, the ability to share photos is social media's killer app. Facebook has built an empire on that capability, and both Google and Twitter are racing to catch up. But you don't have to contemplate the new, in living color, Twitter feed very long to realize that this isn't just about being able to instantly see the photos that the people you follow are sharing. In-line images and video are obviously how Twitter plans to deliver advertisements in the future. The introduction of the design change, just before IPO day, was a clear signal to potential investors: Look at this gold mine! What advertiser won't want a piece of that?

Twitter, despite its growing revenue stream, isn't making a profit yet. But if mobile advertising numbers continue to grow (from 2011 to 2012, global mobile advertising grew 82 percent, from $5.3 billion to $8.9 billion), Twitter stands to make a lot of money. So, sure, there is a buy-and-hold case to be made for purchasing stock in Twitter. Facebook has apparently pulled off a remarkable transition to mobile -- according to the company's most recent earnings report, more than half of total revenue is now generated by mobile. If Twitter follows the same path, it is certainly possible that a year from now, Twitter's stock price could be surging.

But here's the rub: Twitter's success is contingent on not killing the golden goose. The company must avoid, at all costs, pumping so many distracting ads into our timelines that we no longer see the service as a quick and efficient way to absorb massive amounts of timely information. It's one thing to see a Promoted Tweet from Oreo every now and then -- it's quite another when Oreo Vines starts clogging up the all the sight-lines.

Twitter is surely mindful about the necessity of avoiding the disastrous fate of MySpace, which cut its own throat by forcing far too many advertisements onto its network. I'm sure Twitter has the best intentions, and will do the most scrupulous data analysis possible to ensure that it maximizes its advertising revenue streams without disemboweling user "engagement" with the service.

That's all fine and dandy in an environment in which the advertising money is flowing smoothly. The tough question is: What happens when the next economic downturn rolls along? Any old-school media executive can tell you; the first thing that corporations cut when a recession hits is the advertising budget. Social media companies currently boasting about how online and mobile advertising curves are pointed sharply upward will one day discover that this is not a permanent state of affairs. Publicly traded companies like Facebook and Twitter that depend on constant growth to justify their market valuations will suddenly face an existential crisis.

How do you boost ad revenue when advertisers get cold feet? The answer: You get more aggressive. You worry less about irritating your users. There will be huge pressure, in such a scenario, to make ads more intrusive. More Vines, with grabby audio! Bigger pictures, swallowing up larger and larger swaths of your smartphone screen real estate! An Oreo in every tweet!

And that, in turn, will run the obvious risk of alienating users; users who, as history shows, are always ready and willing to migrate en masse to a new, less annoying service.

So there you have it. Twitter's IPO is a rigged game designed to fleece suckers to stuff the pockets of the wealthy. And the whole thing could collapse at the first serious dip in the business cycle.

Don't say you weren't warned.

Andrew Leonard

Andrew Leonard is a staff writer at Salon. On Twitter, @koxinga21.

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