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Quote of the Week – Pre-IPO Intelligence

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June 25, 2012

“… the last VC rounds in Yelp, LinkedIn, and Splunk, although less heralded by VCs during their times as private companies, have all performed very well. VCs and other investors in high priced pre-IPO rounds need to think more about what will sell on Wall Street, not just on Sand Hill Road.”

 

Who said it: Glenn Solomon, partner, GGV Capital, an expansion stage firm that invests in the US and China, and formerly of Partech and Goldman Sachs.

 

In Context: In a recent article, Solomon takes a look at the last few rounds of venture investments for four tech companies that didn’t pan at IPO out as planned and why. The companies are Facebook, Zynga, Groupon and Twitter — where demand was so strong that venture capital firms paid large sums for secondary stakes of common shares at multi-billion valuations. He came up with three reasons for the lackluster returns for such investors: 1) too much focus on high growth rate when public investors rarely pay higher multiples for a company growing 100% versus a company growing 50%, all else being equal.  2) Lack of profit margin expansion – public investors don’t necessarily pay more for profitable companies early on but they want to see profits and will pay up for a company that can show profit margins expanding over time.  Both Zynga and Groupon show a form of profitability, but margin expansion doesn’t seem proven, so public investors have been less willing to ascribe high prices. 3) Proven versus unproven business models.  These companies have innovative models but they don’t have analogous or comparable companies they can point public investors toward.  Solomon said that in the absence of good comparable companies, public investors often become uncertain how to value such companies.  As a result, valuation multiples can be volatile until the business model is proven. (Image source: GGV)

 

Where we found it: Three Reasons Venture Capitalists Can Get IPOs Very Wrong via Fortune magazine

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