Here's Why LinkedIn Might Be a Better Investment Than Twitter

LinkedIn (NYSE: LNKD  ) and Twitter (NYSE: TWTR  ) shares have sold off by huge margins this year: LinkedIn shares are down 42% year to date, while Twitter's shares are down 37% this year

They are the fastest growing social media companies today. But, LinkedIn's top-line growth is showing signs of slowing down. It fell to 46% in the first quarter of fiscal 2014, from an average yearly growth of 57% in fiscal 2013. Assuming that the company grows at the top end of its guidance, then it will finish fiscal 2014 with a revenue of $2.08 billion, or a 36% growth.

What's going on at LinkedIn?
LinkedIn managed to make a profit in seven out of the eight last quarters between 2012-2013, before reporting a net loss of $13.4 million in the first quarter of the current fiscal year. LinkedIn is facing the bugaboo of many companies experiencing high-revenue growth: spiraling sales and marketing costs.

The company spent $510 million, or 34%, of its 2013 revenue, on sales and marketing expenses. In the first quarter of fiscal 2014, growth in sales and marketing costs outpaced revenue growth: 52% vs. 46%. Product development costs, the company's second-largest expense category, grew 49% during the quarter, 3 percentage points faster than revenue growth. Oddly, LinkedIn's general and administrative expenses, its third largest category, grew 74%.

LinkedIn's user base grew 36% during the quarter compared to last year, but its page views grew just 5%, indicating a rather worrying lack of user engagement.

The bright spot in that rather flat report was that the company expects its sales and marketing expenses for the full year as a percentage of revenue to be below last year's figure of 34%.

Although the company's stock-based compensation in fiscal 2014 is expected to grow to $305 million from $193.9 million last year, it will represent ''just'' 14.7% of its revenue. In contrast, Twitter's stock-based compensation of $640 -$690 million for the current year represents about 54% of its expected 2014 revenue.

LinkedIn has more than $2 billion in cash and short-term securities, while Twitter is cash-flow negative.

Twitter's Achilles' heel
While most of LinkedIn's problems look like temporary ones that the company is likely to outgrow, Twitter's case is not as easy. The bad part is that some of Twitter's biggest problems are not necessarily of its own making, and there isn't much the company can do about them. Let's have a look at three of these reasons.

1. Poor monetization rates for international users
Twitter's business exhibits an odd dichotomy. The company has far more international users (non-U.S.) than domestic ones (U.S.): 186.8 million vs. 54.1 million. While there is nothing unusual about this, the worrying part is that international users account for just 26% of the company's revenue. Non-U.S. users have been growing 1.5 times faster than U.S. users: 33% vs. 21%.

Twitter's advertising revenue per 1,000 timeline views stands at $3.80 in the U.S. and just $0.60 for the rest of the world.

Assuming that 80% of the U.S. population will eventually become Twitter users ( a very generous assumption), and growth for both local and international segments continue at the current rates, the U.S. market will be fully covered in just eight years, after which the rest of the company's growth will have to come from international markets. It's very likely that U.S. growth will max out much sooner than the eight years we have assumed here, possibly in just five years.

With such poor monetization rates for international users, the company could be facing a revenue cliff in a very short period of time.

Twitter's reprieve, however, might come as smartphone adoption rates in the developing economies continues to increase. Currently, a huge percentage of these users are viewing Twitter through feature phones, which are not very advertiser friendly. But assuming that smartphone adoption in these countries helps to double their revenue per 1,000 timeline views to $1.20 in about five years, it will still be far short of the U.S. average.

2. Crowded online advertising industry
Twitter happens to be a tiny player in a crowded online advertising industry. The company has roughly 1% market share vs. 51% for Google (NASDAQ: GOOG  ) and 11% for Facebook (NASDAQ: FB  ) . There are a raft of other top players in this industry, too, including Yahoo, Baidu, LinkedIn, and Yelp. Facebook can sell its users' data to advertisers; LinkedIn is busy steamrolling human-resource industries with its profiles and content, while Google is busy growing its already dominant market share in online advertising. The space looks quite hostile for Twitter.

Twitter shares still look quite expensive even after the big sell-off this year.

3. Stock-based compensation
Twitter's stock-based compensation for its executives and employees is a major drag on its bottom line. The company reported a net loss of $645.3 million in fiscal 2013, after taking a $600.3 million hit from stock-based compensation. The situation is not expected to improve in fiscal 2014 when the company will dole out stock-based compensation amounting to $640 million-$690 million.

Foolish bottom line
Twitter shares seem to be priced for a lot of growth in the coming years. But with the company making so little money from its international markets, and growth in its core U.S. market likely to hit a ceiling soon, it's going to be difficult for the company to maintain good growth five years or so down the line. LinkedIn is more likely to outgrow its problems sooner than Twitter, and is therefore the better long-term investment.

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Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On May 13, 2014, at 4:09 AM, Interventizio wrote:

    I think too that LNKD is a better company than TWTR, and since it's also cheaper, it's a way better investment too. But that doesn't means it's a good investment in absolute terms: way overvalued based on fundamentals. But we know how these things go...

  • Report this Comment On May 13, 2014, at 8:19 PM, london1958 wrote:

    Well, I know one guy who works at the Fool has invested $117,000.00 on this stock in the last couple months, saying it was an investment of a lifetime! So, how's LNKD doing? Yes, that's the promo we've been seeing. Well, if he bought the stock a month ago, ( march 1st) $117,000.00 is now worth about 104,000 (11% down) and if he bought it around February1st, 117,000.00 is now worth about 82,000.00 Now let me get this straight....You didn't recommend shorting this race horse back to the stable did you? , that is the only way to make money out of this stock. Where's the bottom?? You've lost $35,000.00 in 3 months!

    Fortunately, I bought some other stocks that are up, but felt the timing for this stock was wrong....and I was right.

    Let me know when you have another winner and I'll short the b****** and make some money!!

  • Report this Comment On May 13, 2014, at 11:48 PM, Salix wrote:

    I will not invest in LinkedIn. They have a fine web-site. It's a staple of the Internet. LinkedIn's product, however, is like vapor. Demand for their services decline anytime.

  • Report this Comment On May 14, 2014, at 8:31 PM, woolibulli wrote:

    I finally created a separate portfolio of SA recommendations, including your stock of the Year, etc.

    The most touted are the biggest losers and the whole port is just down. Even when the Nasdaq is up, it's down. When the Nasdaq is down, this one is way down.

    I hope that after 5 years I will see some great results. I might start shorting with london1958.

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