Every era of tech has its defining IPOs. From the dawn of the PC (Microsoft, 1986) and the Web revolution (Netscape, 1995) to the rise of the Faangs (Google, 2004) and China's new tech champions (Alibaba, 2014), these stock market debuts have been emblematic of their times.
Tech's unicorn era is finally having its Wall Street moment — and it is not pretty.
WeWork's biggest backer, SoftBank, wants to call a halt to a planned listing, while Uber's shares stumbled to a new low last week, about a third below their IPO price.
These have been the two biggest candidates for a stock market listing in 2019, for what was meant to be tech's Year of the IPO. It comes after a long drought during which the most promising tech start-ups chose to stay private, enjoying a valuation premium in the private markets. But it turns out that the easy cash has bred bad habits.
If Uber and WeWork come to be seen as the emblematic deals of a period of excess capital, the investors who have pumped them up will have only themselves to blame.
Not that all the new companies Silicon Valley has been trying to foist on Wall Street are as overvalued or as steeped in governance and ethical controversy.
On Wednesday, in fact, the market for tech IPOs appeared to be functioning pretty much as intended. Internet services company Cloudflare boosted the price range for its initial public offering in the face of strong demand, while online orthodontics supplier SmileDirectClub raised the price of its shares ahead of the first day of trading, valuing it at nearly US$9 billion ($14b).
With gross profit margins of nearly 80 per cent, both companies are founded on solid economics — even if the costs of growth mean each is still spilling red ink.
Still, the heightened flow of stock market listings like these during 2019 pales in comparison to WeWork and Uber. The car-booking company was once eyeing a valuation of US$100b or more. Last week it touched US$52b, as California moved ahead with a law that could force it to treat drivers as employees.
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That would put further stress on a business model that critics claim has been little more than an arbitrage all along, taking advantage of a pool of low-cost contract labour to undercut established services.
WeWork, meanwhile, was hoping for an IPO that would bring a premium on top of the US$47b it was last valued at in the private market. Then reality set in. WeWork's business is also based on an arbitrage, signing long-term leases on office buildings and bringing in tenants on commitments that average 15 months. Wall Street is apparently unwilling to consider a share sale valued at even US$20b.
Big valuations swings around a listing are not unheard of. Facebook's stock fell by 50 per cent soon after its listing on worries that it had missed the shift to mobile, before surging ten-fold in the next six years.
But as the products of a period of ready capital, Uber and WeWork have remedial work to do to prove their businesses will be sustainable if the cash tap is turned off.
It is not just that the ready supply of cash may have led both companies to overspend (though that could also be a problem — Uber laid off more than 400 workers this week, its second round of job cuts in less than half a year as a public company).
Rather, their very businesses were founded on the premise that cheap capital would always be available, and in large amounts. This became a competitive weapon, with uneconomic pricing used to pump up demand for a new service and keep competitors at bay.
The aim was to establish an impregnable scale and brand, along with whatever network effects they could muster to dig moats around a new market. During this unprofitable dash for growth, investors were urged to keep their eyes on the pot of gold at the end of the rainbow: a potential market that WeWork put at US$1.6 trillion, while Uber conjured up a total addressable market of more than US$12t.
It turns out Wall Street is not so willing to go along with such airy promises. That leaves both companies facing a similar, unappealing set of questions.
If they pull back from unprofitable growth and try to pivot to financial sustainability, what will it do their growth rates?
And can they make a decent margin from the new territory they have already carved out?
A public market corrective was overdue. With remedial work, both could emerge as sound businesses — even if that means some tough decisions ahead. But for tech's IPO Class of 2019, the damning verdict is already in.
Written by: Richard Waters
© Financial Times