3 Reasons Twitter's Revenue Could Decline in 2017

Image source:Asa Mathat for Twitter, Inc.

Twitter's (NYSE: TWTR) revenue growth is slowing to a crawl. After reporting just 8% sales growth in the third quarter, analysts are projecting 4% growth in the fourth quarter. Surprisingly, the Street's consensus is for nearly 10% revenue growth in 2017, but at least one analyst thinks that's overly optimistic.

One of RBC Capital's Mark Mahaney's surprise predictions for 2017 is that Twitter's revenue could decline. Mahaney says there's a greater than 30% chance it will happen, though the average internet investor finds a decline in Twitter's revenue highly unlikely.

But there are three big reasons Twitter's revenue could decline this year.

Low to no user growth

Twitter's recent struggles to grow its user base have been well documented. Since the beginning of 2015, Twitter has managed to add just 15 million net new users. Growth in the U.S. has completely flat-lined, going from 65 million to 67 million in that time.

Without user growth, Twitter is finding it hard to grow its ad revenue. Strong ad engagement growth is being fueled by its new autoplay video ads and increases in ad load, but it's largely being offset by decreases in costs per engagement. For example, Twitter increased engagements 91% in the third quarter, but cost per engagement decreased 44%. Effectively doubling the number of ad engagements at half the price isn't going to move the needle on the top line.

It's only a matter of time before Twitter runs into ad load saturation. Facebook (NASDAQ: FB) recently noted that its ad load is near its limit, which will cause its ad revenue growth to slow starting around mid-year. Twitter hasn't given very specific updates on its ad load since its analyst day more than two years ago, when its ad load sat at 1.3%. CFO Anthony Noto said it could reach 5% at saturation.

It can't hold on to its users

The big reason Twitter is having trouble growing its user base is that its user retention is terrible. On Twitter's third-quarter earnings call, Noto mentioned that Twitter sees 420 million unique users every quarter and 700 million unique users every year. He said those number represent a significant opportunity for Twitter -- and they might -- but they mostly represent its currentfailure to retain users.

What's more, Twitter highlighted in its third-quarter letter to shareholders that "there are millions of people that come to Twitter to sign up for a new account or reactivate an existing account that has not been active in the last 30 days." That language implies at least 60 million of Twitter's 317 million monthly active users have little to no user data associated with their accounts.

Twitter's inability to retain its users makes it difficult for marketers to target their advertisements with significant accuracy. It also makes it difficult to grow its active user base. By comparison, Facebook has some of the best targeting data and one of the largest user bases in the world, making it much more attractive to advertisers.

It's cutting spending that drives revenue growth

While Twitter struggles to grow its user base and ad revenue growth is slowing to a crawl, management promised to focus more on turning a profit in 2017. Since revenue isn't growing very much, that means cutting costs.

Twitter announced a 9% reduction in its workforce in October, focused primarily on its sales and marketing team. Indeed, sales and marketing is one of Twitter's biggest costs, as is research and development. It's cutting costs for both departments.

Of course, slowing down its sales and research efforts means that it won't be able to sell as many advertisements or churn out new products as quickly. That will inevitably have a negative impact on revenue growth.

While the cost cuts might help it turn a profit, it will come at the cost of any further revenue growth. Combined with a stagnant user base and high user turnover, Twitter will struggle to grow revenue in 2017.

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Adam Levy has no position in any stocks mentioned. The Motley Fool owns shares of and recommends Facebook and Twitter. The Motley Fool has a disclosure policy.