IPO Frenzy

Investors who regularly follow developments across international capital markets are surely aware of the two large Initial Public Offerings (IPO’s) that took place last week by the food delivery company DoorDash and the home rental company Airbnb.

During its trading debut last Wednesday, DoorDash hit a market capitalisation of over USD60 billion after the share price rallied by 85%. The following day, Airbnb opened 115% above its IPO price resulting in a market capitalisation of more than USD87 billion.

These two companies form part of what has been labelled as the ‘gig economy’ or ‘the sharing economy’ which has been one of the most important online phenomena over recent years. Other companies within this category that also conducted an IPO in recent years are Uber and Lyft.

The sizeable demand by investors for shares of DoorDash and Airbnb as well as other recent listings by technology companies is driving comparisons with the dot.com bubble of 1999 and 2000.

In fact, many market commentators highlighted the fact that despite the significant increase in popularity for ordering food from home during the COVID-19 pandemic, DoorDash registered a loss of USD149 million during the first nine months of 2020 and yet surged to a market value of over USD60 billion last week. Moreover, DoorDash was valued at USD16 billion earlier this year and this sudden surge during the IPO is continued evidence of the hype surrounding new market listings.

Likewise, Airbnb incurred cumulative losses of USD2.1 billion since it commenced business in 2008 including a loss of USD697 million during the first nine months of 2020. When including employee stock options, Airbnb’s fully diluted valuation is in excess of USD100 billion, compared to a valuation of USD26 billion when it conducted a private capital raising exercise at the start of the pandemic.

Airbnb financed its growth over the years via funding from venture capital firms. The company was reportedly valued at USD1 billion in 2011 rising to USD10 billion in 2014 and in excess of USD30 billion in 2016. The company’s revenues amounted to USD4.8 billion in 2019 and the major part of Airbnb’s revenue is derived from service fees from bookings charged to both guests and hosts that use its platform which amounts to circa 15% of the gross bookings channelled through the platform.

The size of the platform is indeed impressive. More than four million owners across 220 countries now offer and rent their properties through Airbnb. 86% of the company’s hosts are based outside of the US. In 2019, 54 million global active users booked 327 million nights and experiences through Airbnb.

The market frenzy for Airbnb is not only evident from the surge of 115% above its IPO price last Thursday which ranks as the biggest debut rally on record for a large US listing. In fact, the IPO price of USD68 per share had already been increased from the original price range of between USD44 and USD50 per share established by the company during the previous week, as well as the revised range of between USD56 and USD60 per share a few days before the IPO. A widely renowned valuation expert had published an article in early December providing a detailed valuation of Airbnb and concluded that the fair value of the company was of USD36 billion which is equivalent to USD48 per share. In fact, the author argued that if the final prices established for the IPO were to attribute a value of over USD44 billion to Airbnb, it should be considered to be overvalued. As things developed, the valuation jumped to USD100 billion last week showing the extent of the market frenzy.

The market value attributed to Airbnb last Thursday equates to a multiple of between 19 and 20 times its estimated revenue for 2021 which is a very high valuation multiple.

Airbnb has also been valued higher than the leading online travel website Booking.com. This is quite a feat considering Booking generated three times more revenue than Airbnb and made a sizeable profit of almost USD5 billion last year while Airbnb incurred a loss.

Another comparison which shows the extent of the market frenzy for last week’s IPO is that between Airbnb and the large and long-established hotel operators. The market cap of Airbnb is more than twice the market cap of the world’s largest hotel group, Marriott International of just over USD40 billion. Moreover, the combined market values of the Marriott, Hilton Worldwide Holdings and Hyatt is of USD80 billion.

Similar to the hotel operators, Airbnb was also naturally hugely impacted by COVID-19 and in the prospectus published ahead of the IPO, it was revealed that the company’s revenue dropped by 32% during the first nine months of 2020 to USD2.5 billion and losses more than doubled to USD697 million. During the period from January to September 2019, Airbnb had generated revenue of USD3.7 billion and incurred a loss of USD323 million.

As the pandemic ground global travel to a halt and room bookings and experiences at Airbnb had plunged by 72% in April, the company laid off about 1,900 workers or 25% of its workforce. During the third quarter of the year however, the company registered a profit of USD219 million as the significant cost cutting that took place earlier this year including the sharp decrease in the number of employees offset the 19% decline in revenue to USD1.34 billion. The performance of Airbnb during the third quarter of the year showed that the recovery was stronger than what many had originally anticipated.

As is typical with many US technology companies, the company’s voting power is largely being retained by the co-founders. Airbnb has four classes of shares but only two classes (the ‘A’ and ‘B’ shares) having voting rights. The other two classes of shares have no voting rights. The holders of the ‘B’ shares (held by the founders and other insiders) have 20 votes each compared to one vote each for the ‘A’ shares sold in the IPO. As a result of this, the three co-founders who retained less than 50% of the shares will still have a large proportion of the overall voting rights.

Frothy valuations across the technology sector are one of the main highlights that characterised this extraordinary year across stock markets worldwide.

The classic example is of the electric vehicle manufacturer Tesla whose valuation touched USD600 billion this week which equates to six times the combined size of General Motors and Ford Motor. Tesla’s share price rallied by 630% in 2020.

Another example is of Zoom Video Communications which became hugely popular as a result of the sizeable demand from people working from home across all corners of the world. It conducted an IPO last year and recently hit a valuation of USD160 billion.

The data analytics Snowflake also made headlines some months ago following an equally impressive IPO. The company’s market value rose above USD120 billion this week surpassing IBM.

Notwithstanding these unbelievable valuations and the strong upward movements in share prices of these companies, investors should always keep in mind that share prices should reflect the financial fundamentals of a company, its performance from one accounting period to the next, and the prospects going forward. Over time, share prices generally converge towards fundamentals.

On the other hand, however, it is also true that interest rates are at historically low levels and should continue to remain at very low levels in the foreseeable future. This is one of the key drivers supporting such high multiples for companies growing at above-average levels.

Despite the media hype created around the two sizeable IPO’s last week and other high-flying technology companies, one must always keep in mind that “price is what you pay, value is what you get”. Investing wisely should be very much dictated by this philosophy.

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