Rumors of Google Buying Twitter Grow: Is It a Good Deal?

TwitterTwitter, Inc. (NYSE/TWTR) stocks are heading higher this week on rumors that it may be bought by Google Inc. (NASDAQ/GOOGL)—a marriage between two tech giants. Let’s break down the possibility of Google buying Twitter and whether or not this could be a good deal.

Google Buying Twitter: The Basics

What are the numbers behind Google buying Twitter?

The search engine pioneer is the fourth-largest company in the world, falling behind only Apple Inc. (NASDAQ/AAPL), Exxon Mobil Corporation (NYSE/XOM), and Microsoft Corporation (NASDAQ/MSFT). Google’s market capitalization totals $371 billion and the stock currently trades at a price-to-earnings (P/E) ratio of 27X. This is because investors expect strong growth.

Investors’ expectations are supported by the company’s ultra-profitable advertising business and a growing number of related products. Services such as “Google Chrome” and the “Android” mobile operating system reinforce the legacy search and advertising business, not to mention high-risk ventures like driverless cars.

But while Google stocks are strong, Twitter stocks aren’t cheap. The real-time social networking giant is worth $33.5 billion—a steep price for a company that has lost money every year since 2010. But Twitter does have users; in fact, the number of monthly active users grew from 185 million at the end of 2012 to 288 million by the end of 2014. In addition, Twitter commands a global presence, with 78% of its users residing outside of the U.S. (Source: “Twitter Q4 2014 Earnings Report,” last accessed April 9, 2015.)

The question then really becomes whether this social media platform, with almost 300 million users, is worth it for Google.

Google Ponders Merger with Twitter

In its latest annual report, Google notes that users are increasing their use of social networks for information and for product and service referrals, rather than using traditional search engines. That’s a problem for this tech giant. (Source: Google Inc. Form 10-K, United States Securities and Exchange Commission web site, January 29, 2015.) Google’s own social network “Google Plus” is already facing intense competition from Facebook Inc. (NASDAQ/FB), not to mention Twitter as well.

The Silicon Valley native must also address the problem that search queries are happening via apps catering to a specific device or social platform. Again, traditional search engines are declining in relevance. Google has to continuously spend more and more on the creation and maintenance of relevant services across platforms and devices. (Source: Ibid.) Google’s potential purchase of Twitter could help bridge that gap. Twitter commands a ubiquitous social network, attracting users across mediums.

For example, early this February, Twitter and Google signed a deal that would allow Twitter’s 140-character updates, known as “tweets,” to be searchable on Google. The deal was critical for Twitter to engage non-users, but to also let Google improve its search results. Engineers on both sides are working to make this agreement operational by the end of the first half of 2015. Clearly, there are benefits to both sides, but is Google willing to pay?

The Cost of Google Purchasing Twitter

As of year-end, Google had more than $18.0 billion in cash and another $46.0 billion in liquid investment. The problem is that most of the cash is overseas and repatriation of those dollars would have significant tax consequences. But that’s not even the biggest hurdle here—the price tag is. With a market cap of $33.5 billion and the need to purchase at a premium, say 20%–30%, the cost to purchase Twitter could be upward of $40.0 billion. (Source: Ibid.)

Google spends roughly 15% of its revenues annually on research and development. (Source: Ibid.) That’s a total of $9.8 billion in 2015. The giant continues to throw money at everything from the successful “Chromebook” project to the recently sidelined “Google Glass” venture and the rumored Google wireless plan.

The bottom line is that Google may to attempt to revive and reintegrate its Google Plus offering through an increase in spending; however, its only hope of establishing a successful social media platform may come with a Twitter purchase. Investors should keep this possibility on their radar screens.