On the verge of an IPO, Twitter is estimated to have a market value of $15-16 billion. What does that mean for our society?
In theory, stocks are valuable because they entitle you to a share of a corporation's profits. The relationship of a stock's price to the earnings per share varies widely, but a price/earnings ratio of around 15 could be considered fairly normal.
As a still-private company, Twitter doesn't reveal its profits to the public, but its profits if any right now are relatively small, and would give the company an enormous p/e ratio. Its value, though, is based on perceptions of future earnings–so a value of $15 billion could be taken to mean that investors eventually hope it'll be making a profit of at least a billion dollars a year.
A profitable tech company might have a profit margin in the range of 25 percent. So let's say that a profit of $1 billion implies revenues of $4 billion
Twitter derives its income from advertising–so that $4 billion comes from companies paying Twitter to reach its users with "sponsored tweets" in hopes of influencing their economic decisions. Obviously, these for-profit companies are hoping to take in from consumers more than they're paying out for advertising; a study by Nielsen Analytic Consulting (12/1/09) found that online advertising got a particularly high return on investment, with businesses getting $218 more in increased sales for every $100 they spent on online ads. To avoid misleading precision on these back-of-the-envelope calculations, let's say advertisers are expecting to get back $2 for every dollar spent on Twitter.
That means that the corporate world thinks Twitter can get you to spend about $8 billion you otherwise would not have–very roughly half the value of the company. Twitter now has about 240 million users, so in round numbers that's about $32 a user. (Discount that by however many people you think investors eventually expect to be using the service.)
So can Twitter get you to see four movies that you wouldn't have gone to otherwise, or eat eight more Big Macs? I can't remember any buying decisions that I've made that were influenced at all by a sponsored tweet, but I guess it's the nature of effective marketing to go unnoticed.
Every media business dependent on advertising leaves a footprint on the economy–if not measurable, at least estimatable. Facebook's market value recently surpassed $100 billion, which implies that investors think the social media site will eventually be able to drive roughly $50 billion a year in sales to advertisers. With more than a billion Facebook accounts worldwide, that's less than $50 per user per year–though that's a harder target to hit in countries like India and Indonesia, No. 2 and No. 4 in number of Facebook users, where $50 is more than 1 percent of the annual per capita income.
In the end, people are going to spend about as much income as they have (if they invest some of it instead, well, mutual funds advertise too), so advertising does not actually increase the size of the economy; instead, it shifts demand from one product to another.
Does advertising help to distribute demand in a more optimal way, to better meet consumer needs? It's hard to make that case with a straight face after thinking about the substance-free emotional manipulation that is the content of most ads.
So the cost of "free" media really is a cost: The price of using a social media site without charge is allowing corporate advertisers to reprogram our minds to buy products we would not otherwise want. When you see the gushing business page stories about the fortunes being made from the latest Internet IPO, remember that the enormous sums mentioned are a price tag placed on us.