FORTUNE — It now makes sense why Twitter initially filed its IPO in secret — its books aren’t pretty.
The social media darling’s first substantive public filing paints a picture of a somewhat troubled and deeply unprofitable digital media company with lackluster growth and an exploding cost base. Its revenues are downright pathetic when measured against its competitors — both today and when they first went public. If Twitter hasn’t figured out how to monetize its content by now, there is something seriously wrong with its management or its platform. Either way, Twitter doesn’t seem ready for Wall Street just yet — investors should tweet with caution.
Twitter is the hottest name to hit the IPO circuit in some time. Not since Facebook’s (FB) IPO last year has Wall Street been so caught up with a new offering. Indeed, many investors have waited years to peer inside the digital media firm. But when the company finally decided it was time to hit the markets, it chose to file confidentially, leaving investors frustrated and in the dark about its past performance.
Now it’s no longer secret — Twitter publicly filed its offering documents last night. The Twittersphere was understandably active, with analysts and journalists tweeting factoids and back-of-the-envelope calculations on Twitter’s financial performance. But no matter how one manipulates the numbers, it all comes back to one glaring fact — Twitter has never made a dime. Sure, the company has been able to grow its revenues over the years but any cash that came in the door was quickly spent on a variety of things, ranging from servers to stock options for its staff.
It isn’t unusual to see technology firms come to market without showing a profit, especially at the beginning of a tech cycle. But even though Twitter has its offices in the Bay Area, it really isn’t a tech firm; it is a digital advertising platform. Indeed, around 85% of its revenue derives from selling ads, similar to that of Facebook, which has, more or less, been around for about the same amount of time as Twitter.
While analysts and tech pundits will argue that Twitter and Facebook are totally different companies, the fact remains that they are competing for the same thing — advertising dollars. Furthermore, the two companies aren’t just competing against each other, but also against the established giants in the online advertising industry — Google (GOOG), Microsoft (MSFT), and Yahoo (YHOO). They all use their particular core strengths to allow advertisers to successfully target new customers and retain relationships with established ones. Google does it with search; Yahoo has its homepage “portal;” Microsoft has its free email service; and Facebook has your personal information. Twitter has, well, your “followers,” which seems to confuse advertisers.
The digital advertising business has been around since Web 1.0 and has matured over the years. Those firms that have failed to produce results have gone the way of Pets.com, while those that did — namely, the ones mentioned above — have thrived. Twitter has been around since 2006, so it has had plenty of time to prove to advertisers that its platform can deliver results. The company’s piss-poor performance compared to its rivals shows that it has failed miserably in this regard. Twitter tried to explain this failure in its S-1 filing by claiming that advertisers may still see the company as being “experimental and unproven” — not the greatest endorsement.
If Twitter hasn’t convinced ad agencies and companies that its platform is a safe place to put their advertising dollars by now, how can it expect investors to give it money so that the company’s original backers can cash out? When Twitter’s digital advertising competitors went public, they had already established themselves as a legitimate advertising platform. For example, Twitter posted revenue of $317 million in 2012, the last full year it reported in its IPO filing. In comparison, Facebook posted revenues of $3.7 billion in 2011, the last full year reported in its 2012 IPO filing, nearly 12 times Twitter’s revenue. Facebook and Twitter are both “Web 2.0” creations and thus have theoretically been competing for advertising dollars for about the same amount of time. Given that, how is it possible that Twitter has lagged behind by so much? Is it possible that Facebook made revenue generation more of a priority than Twitter did? Even if that were true, that wouldn’t be enough to explain the huge disparity.
To be fair, Twitter has seen a big jump in revenue lately, growing by some 198% from 2011 to 2012. Even though it didn’t make a profit, the revenue growth is impressive. But when you compare the first six months of 2012 to the first six months of 2013, the growth rate falls to 107%. That is a red flag. How can investors be sure the company is on the right track if its revenue growth rate is falling? This company is supposed to be growing like gangbusters, at least that is the impression the company wants to give investors.
Again, to be fair, Facebook didn’t show red-hot revenue growth when it went public, either. In the first quarter of 2012, its revenue grew by just 45% from the same period a year earlier, around half that of Twitter. Facebook said that it needed to concentrate on building out its mobile advertising platform, which at the time made up less than 20% of its total advertising revenues. Facebook has been able to do that this year, and it is expected to derive some 60% of its advertising revenue from mobile in the fourth quarter, according to JPMorgan. As a result, Facebook’s second-quarter revenue rose 53% year-over-year thanks to this mobile progression. While it isn’t gangbuster growth, it is at least headed in the right direction — up.
Can Twitter expect a mobile bounce too? Well, it looks like it has already made the transition, with some 65% of its revenue deriving from mobile this year. That corresponds with the drop in its revenue growth rate, so it doesn’t look like mobile is going to provide as big a boost to the company’s top line as investors would like to see.
Maybe Twitter could do the reverse and grow its desktop advertising platform to boost revenue? Unlike with Facebook, Twitter’s desktop platform is awful, especially compared to third-party Twitter platforms like HootSuite or TweetBot. But the bulk of its non-advertising revenue (around 15% of total revenues) derives from licensing deals with these third-party providers, so if it improves its own desktop interface, it might lose some of that revenue. It is a tradeoff, but probably a good one in the long run. Nevertheless, it remains to be seen if Twitter can ever build a desktop (or even mobile) application that can compete with its third-party hosts.
It is too early to say whether Twitter is worth buying, as we don’t know the pricing range to do a proper valuation. We don’t even know how much it wants to raise in this offering. But given that the placeholder value in the filing is some 10 times that of normal placeholders, at $1 billion, it’s probably a good bet that Twitter will be looking for a very big payday. But it will be extremely hard to justify given its lackluster revenue growth, total lack of profit, and huge debt load, which as of the end of June was around half a billion dollars. Combine that with the fact that it says it will see higher costs in the quarters to come due to aggressive international expansion plans, and it could be a while before Twitter ever makes any money.
So far, Twitter has been able to get away with not making money by milking its private investors for cash. It will need to issue a great deal of debt if it plans on running in the red like that as it expands overseas. While venture capitalists and Silicon Valley bigwigs were willing to indulge Twitter’s free-spending ways, the public markets won’t. It may be in Twitter’s best interest to fix whatever issues it may have and come back to the markets when it can show that it can truly stand on its two feet.