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New Twitter filing shows what it would be worth without Elon Musk—and the number won’t make investors happy

May 21, 2022, 11:00 AM UTC

Small wonder Elon Musk’s stalling on the Twitter deal to clinch a much lower price. In agreeing to pay $54.20 a share for a broken enterprise selling at an already-inflated mark of just over $39, Musk was making a wildly expensive bad bet—and that was before the recent tech meltdown that doubtless would have sent Twitter far lower. Even if the Tesla founder manages to push Twitter’s board into accepting a recast offer in the low $40s, he’ll still be riding a long-shot that’s more likely than not to prove a loser for himself and his co-investors. (Read Fortune‘s full feature on the inside story of how Musk won Twitter, and could still lose it, here.)

The newest evidence: On May 17, Twitter filed a proxy statement that provides detailed information on the Musk acquisition. In the “Background of the Merger” section, the company discloses that on April 17, three days after receiving the $54.20 offer, its directors met with the “largest institutional” investors to get their view of the choice between accepting Musk’s offer and going it alone. The fund managers, the proxy relates, “indicated that Twitter had much opportunity but indicated a perceived failure of historical execution. They encouraged the board to seriously consider Mr. Musk’s proposal and weigh the risks of future execution.” In less formal language, Twitter’s biggest stockholders told its board, We’re unconvinced that you and current management can turn Twitter around.

Twitter’s filing includes hopeful numbers on how it would perform alone, and they’re still mediocre

In another section titled “Unaudited Prospective Financial Information,” Twitter discloses its internal, previously-private projections for revenues, profits and other benchmarks through 2027. Although Twitter doesn’t estimate a future share price in this “standalone” scenario, the purpose of the exercise is clear: Showing shareholders they’re far better served taking the $54.20 today than risking an outlook that’s less than stellar even if management “succeeds.” A key assumption backing the forecast is “best case” in the extreme. Twitter assumes that it will greatly grow its market share over the next six years from its “historical average” of 2.1% to 3.3%, winning big in a highly-competitive field encompassing such formidable rivals as Meta Platforms’ Facebook and Snap.

Twitter predicts that its revenues will race at 17.7% a year, growing from $5.08 billion in 2021 to $12.7 billion in 2027. By contrast, it expects operating expenses to wax at a much slower annual rate of 7.9%. Talk about operating leverage! Interestingly, Twitter plans to pay an immense portion of those expenses in equity awards going forward, apparently to save cash. It expects options, restricted stock and the like to constitute about one-quarter of operating costs. Net income isn’t broken out, but it’s fairly easy to approximate from all the other numbers. In 2021, Twitter posted GAAP net profits of $182 million, or a piddling 3.6% of sales. It does predict the revival will start slowly as the social network suffers a small loss this year. But by Fortune‘s estimates, the Twitter numbers imply that net earnings will mushroom to approximately $3.2 billion in 2027.

Reaching that bluebird horizon also requires that Twitter finance the big expansion from cash flow, and not float a lot of new equity. That course will prove difficult, since its playbook budgets around $1 billion in annual capex. It’s acknowledging that the fueling the growth train will take enormous investment.

What’s a likely market cap for Twitter if indeed it achieves $3.2 billion in net earnings by 2027? We’ll assign a multiple of 20 to those profits, roughly fhe S&P 500’s average P/E over the past two decades. Hence, Twitter could be selling in the $64 billion range six years from now. That’s conceivable: Its operating margin would grow from under 4% to 19%, well below Facebook’s in the high-30s. Still, the great expectations built into every component of the forecast make notching a $64 billion valuation an unlikely end game.

Even if Twitter scored as a standalone, it’s better off taking Musk’s cash now. Let’s assume that in the next few years, investors will demand a return of 7.5%, consisting of a 1.5% real interest rate, 3.5% equity risk premium or margin over that safe benchmark, and 2.5% inflation. That’s also consistent with a multiple of 20. Discount a $64 billion valuation back at a 7.5% over six years, and you get $41 billion or over 10% less than Musk offered at $54.20 per share.

If Musk succeeds at renegotiating the price to say, $42, Twitter shareholders would get $35 billion, well below the theoretical $41 billion “on our own” figure. But accepting $42 would still be the better option. First, investors might want a fatter return than 7.5% for the high-risk of owning Twitter, meaning its present value isn’t really $41 billion but less. Second, once again, Twitter would only merit to a present value of $41 billion if all of those aspirational assumptions somehow materialize. Certain cash today is better than the prospect of slightly more cash that may or may not arrive.

What all this means for handicapping Musk’s deal

It’s important to note that Musk and his partners, at $54.20 a share, would be paying a lot more than the usually-reported price of $44 billion. Twitter’s “fully diluted” share count is 10% higher that the number before such additions as un-exercised options and other equity awards. Musk must also pay for those extra shares. It also appears that the banking fees for the deal are being rolled into the loans going to finance the transaction. All told, the full amount seems close to the $46.5 billion he’s raising in total debt and equity.

When Musk first bid for Twitter, its market cap––measured on a fully-diluted basis––was $33 billion. So he’s really paying 41% or $13 billion above its old, standalone value. What’s more, that standalone value has deteriorated as turmoil engulfs the management ranks and top executives depart.

The Twitter projections are important to measuring the challenge facing Musk. If you think it’s a good bet that Musk can hit Twitter’s numbers by 2027, a feat in itself, Twitter’s now worth $41 billion, much less than he initially agreed to pay. If he drives the price to $42, he’ll bag Twitter for $35 billion, and have a lot more margin for error. Just doing what Twitter hoped to do would yield a decent investment.

But that job will be anything but easy, given management’s incredibly optimistic assumptions, and the carnage already inflicted by Musk’s race-then-retreat approach to the deal. You can’t out-promise Elon Musk. His own predictions of how Twitter would fare under his command are typically epic. He promises to as much as quintuple the equity he and his investors provide to around $170 billion in five years, three times my estimate of where Twitter’s playbook would take its valuation by 2027.

The exercise in Twitter’s proxy is a warning signal for Musk and his partners. Squeezing modest gains from Twitter would require a near-triumph. For Musk, getting a lower price would be a good step, but his smartest move, as Shakespeare’s Falstaff declared, would be coneding that “discretion is the better part of valor,” sheathing his sword, and walking away.

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