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Why Snap would lowball its IPO valuation


The short answer for why Snap lowballed its initial valuation for its initial public offering is that it probably won’t be that low for long.

Normally these prices are set by expectations the underwriters and executives can divine from their conversations with Wall Street. It’s essentially a matching game — how does Snap and its underwriters figure out where to price the stock in such a way that it doesn’t leave too much money on the table for those involved in the IPO, and also ensures a pop that it makes money. Price it too low, and you won’t get paid as much as you might. Too high, and it’s an optics issue and the IPO ends up looking unsuccessful.

A price range for Snap’s IPO leaked late last night, which could settle its valuation close to its previous financing round. That’s quite close to its valuation from the previous financing round it raised last year, and in the scope of the financials it released (and demonstrating its very large burn rate) in its public IPO filing it would make sense to keep things conservative. But in the end this is a calculated decision to leak a lowballed number to gauge broader interest, and these numbers inevitably go up. This, for the most part, is just the way things are played on Wall Street headed into an IPO.

Some quick mechanical points: one range would value the company between $16.2 billion and $18.5 billion based on the total outstanding shares after the offering. Another calculation including options and stock conversions places the range between $19.5 billion and $22.5 billion. Either way, both of these place the company within close shooting distance to its previous valuation, with the company raising up to $3.2 billion at the higher end of the price range. Snap’s underwriters also have an option to purchase an additional 30 million shares.

A lot of people are going to draw similarities between Snap’s upcoming IPO next month and the Facebook IPO. As the last major ad-driven social IPO — and one of the biggest — Snap is going to be compared to Facebook’s business. Snap has huge costs of revenue, though its business is very young. And to make things more direct, Facebook is increasingly copying its tactics and products in order to head off Snap potentially locking in an audience that would otherwise grow into using Facebook.

(Another note from Axios’ Dan Primack: the Facebook IPO was also hit with a glitch on the Nasdaq, which could further complicate the comparison)

Snap does need a successful IPO. It does need the price to go up — people want to make money, and it doesn’t want to be seen as a failure like the Facebook IPO. That’s going to woo additional interest in the company as a long bet, with potentially a similar outcome to Facebook as it grows its otherwise young business into an advertising juggernaut with additional revenue streams beyond advertising. For now Facebook is a mainstay advertising, and while Snap is growing very quickly its young business needs to be proven as a consistent ad buy that would go next to Facebook and traditional media.

But in reality, this is not wholly about being trendy or making some kind of public statement about betting on the long term for its business. Snap made it very clear that it is playing the long game beyond just an ad-driven business. It says it’s a camera company, and it’s trying to diversify with things like Spectacles and gunning for content — and areas that it think Facebook just might not be able to access.

Part of the reason the Facebook IPO was so rocky was that was also an introduction to investing for a lot of first-time investors interested consumer in tech. Facebook’s IPO in some ways on its own was unprecedented — it was one of the biggest well-known names that seemed to have a good business and good user growth going public. Things, obviously, did not go well, and the lessons have likely been learned.

Like Facebook, Snap’s IPO is unprecedented in some ways. This IPO is also for non-voting stock, which makes this a special case. It will be a completely different class of demand for the shares — when you buy in, you basically get nothing except the hope and prayer of a dividend and some long-term yield. Evan may have been strong-armed into being conservative, but because the nature of this IPO is so unusual, it would be a very bold (and borderline irresponsible) move to start at the top end under assumptions of what investors are seeking. That would be in relation to whether doing direct comparables, next year revenue projection multiples or similar effects.

Another possibility of the price being lower could be related to the risk and uncertainty associated with it being an offering of non-voting shares, and not necessarily because of actual demand for the stock. There have not been any major tech IPOs in a long time (Snap’s is the largest since Alibaba in 2014, which was an entirely different story). So there’s probably a lot of money sitting around, waiting to be allocated.

At the end of the day this is just how the game is played. Snap is going on its “road show,” where it will make its pitch to investors as to why they should buy the stock. As these meetings continue, expectations get closer and closer to reality, and Snap will continue to tweak that price range until it lands on what they think is going to yield the optimal outcome. Basically, expect this to change in the near future.

Featured Image: Michael Kovac/Getty Images


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