Twitter IPO: Tough Road Ahead?

“We’ve confidentially submitted an S-1 to the SEC for a planned IPO. This Tweet does not constitute an offer of any securities for sale.” With these words, on September 12th Twitter not so confidentially announced its decision to initiate the transition to becoming a public company. And ever since then, Twitter has appeared in financial news every day regarding its prospects about the IPO process. From talking about the slightest amendments made in the latest version of the S-1 sent to the SEC, or to the growing worry that Twitter is slowly losing user base, few news stories seem more prevalent than Twitter’s IPO.

However, in the midst of the Twitter fervor stands one man who is not necessarily all too hyped about the social media startup. Shai Bernstein, assistant professor at the Stanford Graduate School of Business, in his 2012 research paper Does Going Public Affect Innovation? notes that recent startup businesses entering public equity markets become, overall, less innovative as a firm. Specifically, he notes that post-IPO tend to pursue less-novel projects while experiencing high employee turnover (Bernstein).

According to Bernstein, measuring a firm’s level of innovation is a great proxy for measuring its success as well. Especially within industries where firms heavily rely on product differentiation and out-of-the-box creativity to ensure an edge over competitors, innovation plays an important role directing a company’s future prospects.

In his study, Bernstein compared two types of tech companies: 1) those that went public, and 2) those that were about to go public but had withdrawn IPO plans. What he found was that amongst firms of similar size, R&D spending, and in the same sector, the ones that went public significantly dropped in number of quality and original patents. For instance, he found that the average quality of those patents, as measured by how often they were cited, declined by about 40% in the 5 years after going public. By contrast, companies that remained private stayed on the same track as before (Bernstein).

In addition to patents analysis, Bernstein found that post-IPO firms experienced higher rates of management turnovers. He notes that many executives leave the firm after cashing out on their equity in the company because, and even worse, the ones that stay after the IPO become less productive (Bernstein). This caused a serious brain drain for many of the companies that went through with the IPO, and also led to the overall decrease in the firm’s internal innovation level.

Bernstein notes that there exists a complex trade-off between public and private ownership forms. While private firms are far more ambitious in its projects and innovative in its ideas, public firms have easier access to capital that enables firms to bring other innovative thinkers or are able to acquire small innovative companies (even though the public company itself might not be as innovative) (Bernstein). Certainly, the pressures from outside investors coupled with equity market conditions have a great impact on how companies behave after their IPO, which significantly affect its course of direction moving forward (Bernstein).

So what does all of this have to do with Twitter? Is Twitter going to become less innovative and experience significant decreases in human capital after the IPO? Probably, the answer is a no. Although I am not psychic, I think there are some points of considerations that allow Twitter margins of insulation from the potential harms of an IPO that Bernstein discusses.

The biggest difference is the fact that Twitter is a social media company that relies less on developing new innovative products. It is more focused on generating public recognition and usage. What sets Twitter apart fundamentally from the tech companies in Bernstein’s study is that Twitter is a benefactor of public attention, while for the latter it is a hit or miss. Whether Twitter receives good press or bad press from the media, the very act of public discussion about Twitter keeps its name relevant in the public domain. Twitter users don’t factor in the financial competency of the company to decide whether to use its products. Twitter does not require continuous patent developments to keep thriving; as long as it can provide the same level user experience for people then, for the most part, people do not complain. And as long as people are using Twitter as a medium of social media, then its business will stay afloat. Unless a major breakthrough in social media or changes in social norms of online communication strikes Twitter out of left field, the need for constant innovation is not a requirement for Twitter.

With this said, as Twitter prepares its IPO, scheduled for mid-November, Bernstein’s finding is nonetheless an important warning that Twitter should take heed. Especially in today’s day and age where new Apps pop up in iOS and Android on a daily basis, it is ever important to maintain knowledge of the changing industry and the key players involved.