Can a Billion Dollar Company Be a Startup?

One man to rule them all…
Jack Dorsey has been in the news quite a lot recently. On Monday, October 5th he was re-installed as permanent CEO of Twitter, the company he co-founded and ran as CEO until 2008. Barely a week into his second go-round as decision maker in chief, he confirmed via a tweet that his first big decision would be a major restructuring complete with significant layoffs. And he somehow did all of this while holding down a pretty demanding second job: as CEO of Square, the other billion dollar tech company he founded that also happens to be in the middle of filing for an IPO. Whew. THAT, is a busy stretch. I feel lazy just writing about it.

But we do not come to the blog today to marvel at Dorsey’s work ethic or caffeine intake. Nor to engage in the insipid debate about what Twitter should or shouldn’t be. We come to discuss the fundamental question surrounding Dorsey’s dual roles: can a part-time CEO be an effective CEO?

His colleagues at Square seem to be worried the answer is no, as evidenced by one of the risk factors detailed in their S-1 filing

“Jack Dorsey, our co-founder, President, and Chief Executive Officer, also serves as Chief Executive Officer of Twitter. This may at times adversely affect his ability to devote time, attention, and effort to Square.”

I’ll be more blunt than the good folks at Square: Dorsey has no chance at being an effective CEO for both companies. And that’s no knock on Dorsey. If he was going to be at the helm of two established companies I think he’d have a pretty good chance at succeeding. Unfortunately for him (and the employees and investors of both Twitter and Square), he’ll be at the helm of two startups.

That’s right—Twitter, a publicly listed company founded nine years ago with over 4,000 employees and over $1.4 B in revenue in 2014, and Square, a soon-to-be publicly listed company founded six years ago with over 1,000 employees and over $850 M in revenue in 2014, should both still be considered startups. And startups need full-time, dedicated CEOs to succeed.

I’ll assume most reasonable people don’t need to be convinced of that very last point. So let’s dive deep on the one that may seem counterintuitive—Twitter and Square are still startups.

So, what IS a startup?
We live in strange times, economically speaking. New companies can go from idea to $1B valuations in months. Private companies can raise billions in equity financing without going public. And the combined forces of the internet and globalization allows companies to access worldwide markets without significant investments in either staff or capital infrastructure. In this environment, our traditional guideposts of company age, number of employees, and pre- vs. post-revenue have become a lot less useful to distinguish the startups from their mature, established brethren.

At 4iNNO, we define a startup as an idea in search of a sustainable business model. Emphasis on sustainable. One can check out Steve Blank’s First Principles for a more rigorous exploration of why this definition makes sense, but the quick and dirty version is that figuring out how one’s company can repeatedly generate money from a new product/service/software is typically much harder than building the product/service/software itself. And therefore, whether a startup has figured out the “monetization problem” is a much better predictor of long-term survival (and if the company will be around long enough to pay off the foosball table and kegerator in the breakroom).

How does the Dorsey duo fare against this definition?
So…has either Square or Twitter figured out a sustainable business model? I would argue the answer for both is no.

For the most simplistic argument, one could point to financials. In Q3 of 2015, Twitter managed to turn ~$570 MM in revenue into a ~$130 MM operating loss. In the same period, Square turned ~$332 MM in revenue into a ~$54 MM operating loss. Those losses aren’t just quarterly blips either, but a consistent trend across all quarters and years for both companies. That seems like quite the opposite of sustainable, no?

Of course, there’s more to unpack behind those numbers. Certainly Twitter isn’t losing money every time someone tweets and Square isn’t losing money every time someone swipes a card through one of their readers—unless that transaction was at a Starbucks. Both companies are heavily investing in marketing to increase their user base. Both companies are also pouring money into product development. To determine whether their business models are truly sustainable depends on being able to tease out whether these investments are simply upfront costs for acquiring a long tail of user revenue or whether such high levels of marketing and product development spend are revealing of a more systemic flaw.

Square = a startup
Let’s start with Square. From a distance it seems like a pretty clear cut case of heavy upfront investment that will pay off in the end. If you squint your eyes, Square looks like a lot of other established payment processing firms. They take a very small cut of a very large number of transactions. For that to be sustainable, you need a large user base. As most of us can probably attest from personal experience in our own neighborhood stores and restaurants, Square has done a solid job of building and continuing to grow this user base (in fact, the majority of their revenue growth is still coming from new users). Maybe a payment processing business model is not as sexy or revolutionary to the financial industry as Square was originally predicted to be, but it’s not an awful way to make a living. One minor problem, though: Square doesn’t want payment processing to be its sustainable business model, nor does Square even believe the small profit margins in payment processing are capable of being a sustainable business model. Dorsey himself has publically stated, “We always knew it was not our core business…we knew the real business was around the data.”

Okay…so we’ve got to think more long-term. Fine. Not the first time someone has proposed a business model based on monetizing lots of valuable data about who buys what from where. But, Square isn’t really doing any of that yet. Over 95% of their revenue comes from transactions. They just launched Square Capital last year to make loans to all the small businesses they already serve. But it’s way too early to tell if that will a long-term money maker, let alone whether all that “costly” data from their payment processing business actually enables them to make a better return than other small business loan providers. Ditto for their whole suite of small business operations software products. Outside of those offerings, Square has the high-profile flop of its Wallet product and not much else. Sure, it has phenomenal potential. And Dorsey will do his best to sell that potential during the pre-IPO roadshow. But if you’re pitching potential, then you’re pitching a startup.

Twitter = a startup
How about Twitter? Despite being the first of Dorsey’s companies to go public, Twitter’s quest for a sustainable business model is no further along than that of Square. Hell, Twitter’s still having a hard time defining what the value proposition of its microblogging technology is despite having hundreds of millions of users. Fun bar game, ask 10 different people what they use Twitter for and I bet you get at least five to six different answers. To some it’s a fun way to communicate with friends or celebrities, to many it adds a sense of interactivity to live events, to others it’s a source of news updates, to others it’s a link aggregator, etc. The value proposition to advertisers, however, is much clearer: lots of captive eyeballs for their ads. It is a tried and true business model we are all familiar with (newspapers, radio and TV stations, Google, Facebook), and therefore one we’d assume to be very sustainable.

But with Twitter, it’s a bit more complicated. As we mentioned earlier, Twitter has millions of users. This is good—advertisers will pay to reach a large audience. Unfortunately for Twitter, user growth has stalled both worldwide and in the US. This is very bad. For a company that needs to significantly grow its advertising revenue to become profitable, there is not much recent evidence to suggest Twitter can pull on the volume lever of the revenue equation. Which leaves the price lever: significantly increasing ad revenue per existing user. There is some evidence from their 2015 ad revenue numbers that this might be possible. And Twitter is continuously updating its suite of ad products and capabilities, including via recent partnerships with DoubleClick and TellApart, to try to reverse the market perception that the ROI of a Twitter ad is significantly less than that of other online or social media channels.

Ultimately, Twitter has to figure out if it can continue to grow ad revenue in a climate of low-to-zero user growth. Feasible for sure, but there is clearly a limit to how much ad revenue can be generated per user (there is some fundamental bound to the ads-to-tweet ratio before users will flee the service), and it is very unclear if that ultimate level of ad revenue will be enough to turn an actual profit. Or Twitter has to demonstrate that it can either reignite user growth or find some way to monetize non-users. And it must figure all of this out in a climate where ad-blocking has made the future of digital advertising increasingly murky and contentious. Dorsey was brought back as CEO specifically to address these vexing and interrelated challenges. It’s way too early to tell if he’ll be successful, which means it’s way too early to say Twitter has found a sustainable business model.

Godspeed, Mr. Dorsey
So where does all of this leave us? We know that despite their lofty valuations and techie fame, both Twitter and Square face fundamental challenges and uncertainty about their ability to create sustainable businesses. We know that one man is currently in charge of figuring out these giant questions for both companies. And we know that it will take a lot of that previously mentioned “time, attention, and effort” to get it right for either of the companies, let alone both. I think it’s a recipe for failure.

The markets also appear cautious—on Friday we learned that the target price range for Square’s IPO places a market value on the company significantly lower than the valuations from its last private fundraising efforts in 2014. Dorsey himself even seems to think his employees need some convincing. On Oct 22, he gave about a third of his Twitter stake (valued at roughly $200 million) back to the employee equity pool. He also tweeted, “I’d rather have a smaller part of something big than a bigger part of something small. I’m confident we can make Twitter big!” Interesting words considering the points we discussed above. I’d argue that both companies would be better off if Dorsey decided to be a bigger part of only one of them, rather than a smaller part of both.


Disagree that Twitter and Square are startups? Let Keith know.

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Keith Thornley, PhD

Senior Associate