By Scott Thurm and Pui-Wing Tam
For venture capitalists and other prominent investors in young
companies, an initial public offering is supposed to be the big
payoff for years of patience. It's not working out that way for
some backers of newly public Internet companies.
Disappointing debuts of Web companies such as Facebook Inc. and
Zynga Inc. have put some pre-IPO investors under water, leaving
them with shares worth less than what they paid. Other investments
remain profitable, but with much smaller gains than projected as
recently as a few months ago.
The declines underscore the risks behind a recent Silicon Valley
investment trend -- jumping into hot companies relatively late in
the game, in the hopes of modest profits and outsize bragging
rights. Well-known venture firms such as Andreessen Horowitz and
Kleiner Perkins Caufield & Byers popularized these investments
and helped propel a boom in valuations for private Internet
companies.
Once the companies began going public, though, the boom fizzled.
Zynga demonstrates the shifting fortunes.
In February 2011, heavyweights Morgan Stanley Investment
Management, Fidelity Investments and T. Rowe Price Group Inc.
together invested $490 million in the maker of games including
"FarmVille" and "Words with Friends," valuing Zynga at $10 billion.
The investors paid $14.03 per share, according to Securities and
Exchange Commission filings.
In December, Zynga priced the shares for its IPO at $10, amid
concerns about its reliance on Facebook.
After an initial surge, the shares have declined, closing Monday
at $5.78.
At that price, Zynga is valued at $4.3 billion, less than half
its value of 16 months ago. The drop has dragged other pre-IPO
investors under water, including Google Inc. and Japan's Softbank
Corp., which together invested $295 million in June 2010, at $6.44
a share.
Zynga's earliest investors, including entrepreneur Reid Hoffman
and five venture firms, still stand to secure profits on shares
they bought for less than 50 cents each.
But declining share prices have "made people pause and think
about the high-valuation late-stage rounds," says Mike Volpi, a
venture capitalist at Index Ventures. "You'll see people be more
sensitive to value."
Index, too, has made pricey late-stage investments, including
one last year that valued online-file-sharing start-up Dropbox Inc.
at $4 billion. Mr. Volpi calls Dropbox an "exceptional situation,"
and says Index still likes the investment.
To be sure, the losses in most cases are only on paper, and
could reverse. Facebook is down 17% from its $38 IPO price, but
gained 11% last week and another 5% on Monday to finish at
$31.49.
Some of the venture investors which fueled the late-stage
investing craze have reaped profits despite share-price tumbles.
Andreessen Horowitz, for instance, got into Facebook in late 2010
when the social network was valued at around $35 billion; Facebook
is valued at more than twice that amount today. Andreessen Horowitz
is also modestly ahead on its investments in Zynga and Groupon
Inc.
Moreover, venture firms showing losses on one deal sometimes
stand to reap big gains on others. Several Internet-related IPOs --
including social network LinkedIn Corp., realty site Zillow Inc.
and software maker Splunk Inc. -- are trading above their offering
prices.
Meritech Capital Partners, a Silicon Valley venture firm known
for "late-stage" investments in more mature start-ups, is a few
million dollars under water on a 2010 investment in car-sharing
service Zipcar Inc. But Meritech stands to gain more than $1
billion on its 40-million-share stake in Facebook, acquired
beginning in 2006 at 29 cents a share.
"The 'logo chasing' investing style of paying a public market
price for a late private round has been proven to be a flawed
model," says Craig Sherman, managing director of Meritech. "You
have to do the hard work and be discriminating." Mr. Sherman says
Zipcar is the only one of Meritech's nine most recent IPOs in which
the firm's stake is under water.
It is common for the shares of newly public companies to
decline. On average, shares of the 513 U.S. IPOs between 2007 and
June 2011 fell 6.6% from their IPO price over their first year,
according to Dealogic. It is less common for shares to fall below
the prices paid by venture firms, which typically seek returns of
at least 10 times their investment.
As Internet shares drop, more investors are endangered. Meritech
is one of two pre-IPO investors under water on Zipcar, after
putting $20 million into the company in December 2010 at $15.22 per
share. Zipcar went public in April 2011 at $18; its shares have
since declined to $10.18.
Shares of Groupon now trade at $11.15, slightly more than half
the $20 IPO pricing in November. That is not far above the $7.90
per share at which backers including Morgan Stanley, Andreessen
Horowitz, Greylock Partners and Kleiner Perkins invested $950
million in Groupon in late 2010 and early 2011.
"The vast majority of our investments are early stage and that
will continue," said David Sze, a partner at Greylock, which
invested in Facebook in 2006. Andreessen Horowitz and Kleiner
Perkins declined to comment.
At Facebook, early investors such as Accel Partners and
investment firms DST Global and Mail.ru stand to make billions,
despite the drop in Facebook shares since the IPO. But those who
jumped in last year will see much smaller gains, and some may be
under water, for now.
The fate of these investors can't be known precisely because
they bought existing shares from Facebook employees, rather than
newly issued shares from the company. In SEC filings, Facebook says
some investors paid more than $50 a share, but the average prices
were much lower. In its filings, T. Rowe Price said it paid $25 to
$31 a share for its Facebook stake.
Robert Benjamin, a T. Rowe Price spokesman, says "Our
social-media pre-IPO investments are part of a larger set of
investments by our funds, dispersed among many funds," and
typically represent less than 1% of the holdings of any fund.
Fidelity and Morgan Stanley declined to comment, as did Groupon,
Zynga and Facebook. Zipcar didn't return phone calls and emails
seeking comment.
Write to Scott Thurm at scott.thurm@wsj.com and Pui-Wing Tam at
pui-wing.tam@wsj.com
(END) Dow Jones Newswires
September 25, 2018 02:00 ET (06:00 GMT)
Copyright (c) 2018 Dow Jones & Company, Inc.
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