How Lyft's Reception Could Mean Trouble For The IPO Market
Summary
- Lyft's relatively poor performance following market open could be a sign retail investors may not be keen on the upcoming deca-unicorn IPOs.
- Reasons from misunderstanding of valuation metrics to comments from Warren Buffett could be to blame.
- The next few offerings and the performance of Lyft going into quarter 1 earnings, could have significant ramifications on the year's massive IPO market.
Silicon Valley Invades Wall Street
2019 is expected to one of the biggest years for IPOs in recent history with the expected debut of some of the most valuable and most sought after Silicon Valley favorites including Pinterest (PINS), Slack (SLACK), and Uber (UBER). Many of these tech and internet giants have become so large that term unicorn (billion dollars + private company) was deemed too insignificant and the new term "deca-unicorn" has been coined to better describe them. This expected parade of deca-unicorns began on the last trading day of Q1 2019 with the IPO of the rideshare company Lyft (LYFT). Despite heavy publicity and anticipation, the company failed to lift off following its opening trade. Given this offering's status as the first man on the ground in Silicon Valley's invasion of Wall Street, speculation has begun on what this could mean for the IPO market and the upcoming listings.
Lyft Underwhelms
On Friday, March 29th, 2019 the San Francisco based rideshare company, Lyft debuted on the Nasdaq kicking off the wave of Silicon Valley deca-unicorns. After becoming oversubscribed during the first two days of its roadshow, both the hype and expectations for the stock were astronomical. This lead many, myself included, to speculate that this could price above the $62-$68 dollar range, and before long this became a reality when the range was revised up to $70-72 per share. Finally on Thursday, March 28th, 2019 it was announced that the IPO would be priced at high-end of its guided range at $72. To many, this offering would be a meaningful showing of how Wall Street and the average investor take to the Silicon Valley exclusive growth machines, and while Wall Street clearly ate the offering up, it does not appear the average investor was as keen.
Source: Contributor Research (Price Data from Yahoo!Finance)
Let me take a moment to address and to emphasize that one day of trading, especially an IPO, is not indicative of how a stock will perform in the long-term, or in truth the short-term either. That being said, there is typically an enthusiasm and a general initial "pop" from eager investors and gambling day-traders looking to get in on the action. The chart above demonstrates this principle and the various ways metrics from which this can be gauged.
It is common knowledge that IPO price is not equal to the price of the first public trade, but the initial price at which the underwriting syndicate will offer shares of the stock for sale off the public exchanges. To make the investment attractive underwriters and the capital markets team working at the listing exchange aim to price the stock at a level where it garners a valuation that will make the executives and existing shareholders happy but will also leave money on the table for those subscribing to the offering, and, ideally those buying on the public exchange after first trade. Given that markets are demand-based this can be a challenge, but on the other hand, this also means subsequent performance can be telling regarding retail demand. For this reason, I feel it is very telling when Lyft's performance, after being made open to retail investors, was not only negative at -10.26% but even more so than Survey Monkey (SVMK) which was -8.05% for comparison. This is a company hailed as the biggest IPO since Alibaba (BABA) and the first opportunity for investment in a new industry and in a hugely successful Silicon Valley unicorn, and it failed to beat a decades-old survey platform on its highly publicized and anticipated debut. This begs the question of what happened and should investors be concerned about upcoming IPOs?
What Happened?
Preface
This article is an analysis and outlook on investor sentiment in these deca-unicorns and not about Lyft specifically. My full thoughts on Lyft can be found in this valuation analysis I previously published. As I previously said, I do not believe one day's performance is indicative of long-term performance. In many ways, I think the lack of a "pop" is healthy for the stock as it avoids the problem of a runaway valuation and I think it will reduce the risk of a massive reversion to peer-based "fair value" at the time lockup expiration. For this reason, I maintain my bullish outlook expressed regarding this company. With that out of the way, I want to discuss the potential causes of this initial performance and what they mean.
Warren's Warning
On Thursday, March 28th, 2019, one day before Lyft's big IPO and before the stock was even officially priced, Berkshire Hathaway's (BRK.A) (BRK.B) Warren Buffett, one of the most renowned, admired, and influential investors of all-time publically stated he does not buy IPOs and that they are usually not right for the retail investor. Mr. Buffett humorously recounted Ford Motors (F) as the last IPO he recalls purchasing many decades ago. He advised that investors consider investing in a company in the same sense they would if they were purchasing the entire entity and that in most cases it does not make sense to spend billions of dollars when you could put that money to better use in different ways. He said this when specifically asked about the Lyft IPO and the upcoming parade of deca-unicorns soon to follow, and this should not be discounted when evaluating why the shares dropped more than 10% from open. If this truly is the case then this negative advice from Buffett does not paint a pretty picture for the upcoming IPOs as these remarks are far from exclusive in relevance to Lyft.
Confusing Valuation with Share Price
I cannot provide a source for this, but I'm sure many of you have heard someone ask the question "why isn't *insert stock name* worth more if Amazon (AMZN) is almost $2,000." Specifically, I have heard this question many times in regards to Apple (AAPL) and Microsoft (MSFT) after both companies crossed the trillion market capitalization milestone, despite both being worth less than a tenth of Amazon's all-time high price. Most readers, I'd imagine who are interest in material such as this, would be aware that this is the result of a higher denominator in the form of shares outstanding from Microsoft and Apple vs. Alphabet, Amazon, or Booking (BKNG) which are all over $1,000. The same could be true for Lyft given its IPO per-share price was on the high-end coming in over $70, and I have had some friends point this out calling it "expensive" compared to Facebook (FB), not realizing the $38 dollar per share IPO gave the company a valuation over 4-times as high as Lyft. If this were the case, this would be the best case scenario for the upcoming IPOs, which simply would have to issue more stock to lower the value per share. I do not believe this is the cause for the retail reaction, not all of it, but I would not write this off completely.
Waiting for Their Uber
Lyft has been viewed as a little brother to the ride-share monolith Uber for years, despite Lyft actually being the first to pioneer this business model, where Uber previously focused on professional drivers and a premium experience. Given that Uber is expected to IPO this month, this could lead many would-be investor feelings they have to choose between the two new offerings. Uber is considered by many to be the superior service, has a higher valuation, and offers a diversified business model with feet in delivery and autonomous transportation, while Lyft is considered to be a runner-up, with a lower value, and is a pure play on rideshare. Even my bullish recommendation of Lyft states plainly that I am not convinced it is a better investment compared to Uber. It is very possible that retail investors are waiting for Uber to list and are not interested in getting their rideshare exposure from Lyft. This scenario, being company specific, is also positive for the broader IPO market.
Viewed as a Liquidity Event vs. a Capital Raise
Source: National Venture Capital Association
This is by far the most dangerous and most potentially damning possibility for the upcoming deca-unicorns. Companies participate in capital raises for the purpose of financing operations and growth initiatives. The most common forms of financing are debt and equity financing where companies issue repayment obligations or sell ownership in their company to investors wishing to participate in growth. Venture Capital firms and their wealthy limited partners are able to invest in early-stage private companies, because they have been deemed financially savvy and asset rich enough to determine and understand the associated risks and financially survive a potential total loss and/or long periods of illiquidity. It was once the case that companies used the private markets to finance their early stages of operations, but turned to public markets to finance a significant portion of their future growth. Today however private markets are so saturated with cash and demand is so high that these companies are able to stay private for much longer than they once did and now experience a significantly greater portion of their growth appreciation cycle in the exclusive private markets.
If there is one thing that the general populous has made clear in recent years it is that they do not like being treated as a means to an end for the rich. These were my initial thoughts while viewing the charts on Friday afternoon, as I mentioned in my StockTalks, retail investors could very well have simply been rejecting the proposition to serve as a means to an end for the elite and wealthy investors of Silicon Valley to soon cash out from their lucrative investment vehicle. While it is far too early to say this with certainty, this I think the relatively muted launch of Levi Strauss (LEVI), which listed for the very purpose of a liquidity event for the owners, could lend this some credence.
What Does This Mean For The Remaining Listings?
These companies are going to have to go above and beyond to prove to investors that they are worth the lofty multiples at which they are listing, especially in the case of those lacking profitability. Given the trend of declining post open enthusiasm and the fact that even the most anticipated IPO of the past four years was not lauded after open, I believe this raises a real alarm for the new listings. The immediate oversubscription and the equally immediate sink in share prices illustrate the divide in the mentality that is forming between retail investors and those running the institutions. The syndicates and exchanges will be faced with the challenge of finding the happy medium between pricing and investor demand as this event have shown, the days of retail investors lining up even the likes of Survey Monkey and Arlo may be behind us. I will be watching the price action of the next few initial offerings very closely, especially after Lyft reports earnings and investors get their first opportunity to price a full earnings disclosure complete with guiding remarks and a public conference call. This will be the most important test, I feel, that these companies will have to pass, should they hope to keep their lofty valuations.
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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.