Is Wall Street Losing Interest in Tech Stocks?

This is The TechCrunch Exchange, a newsletter distributed on Saturdays, stemming from the column of the same title. You can subscribe to the email version here.

In recent months, the initial public offering (IPO) market demonstrated that public investors were prepared to offer higher prices for growth-oriented technology stocks compared to their private counterparts. This was evident in both robust tech IPO pricing – the assessment of a company’s worth upon its market debut – and the subsequent first-day valuations, which frequently exceeded expectations.

A useful way to gauge the extent of rising public valuations for tech companies, particularly those centered around software in 2020, is to recall how often reports surfaced of unsuccessful IPOs during the year. Perhaps only once? Or at most, a handful of times? (You can review 2020 IPO performance here, if you wish.)

The enthusiasm surrounding IPOs highlighted a discrepancy between the prices many venture capitalists and private investors were willing to pay for tech shares, and the valuation methods employed by the public market. A prime illustration of this is insurtech startup Hippo’s $150 million funding round in July. The company’s valuation reached $1.5 billion, representing a significant increase from its previous private valuation. However, if assessed using the same criteria as the recently-public Lemonade, a comparable company, Hippo appeared undervalued.

This week, however, the notion of private investors being more cautious than public investors in certain instances (with some private funding rounds reaching eight-figure valuations that surpassed public market treatment of IPOs, to clarify) encountered a setback as major technology companies experienced losses, software-as-a-service (SaaS) stocks declined, and other tech firms struggled to maintain investor interest.

The downturn wasn’t limited to only tech companies; as of this Friday afternoon, the American stock markets were poised for their worst week since March, CNBC reported, with “major tech shares” leading the decline.

A shift in the prevailing conditions? Possibly. 

It’s noteworthy that as recently as September, venture capitalists appeared to accept that startup valuations were being inflated by the public market’s unwavering optimism regarding related companies. During Disrupt 2020, Canaan’s Maha Ibrahim explained that VCs were compelled to “participate in the prevailing trend” and pay higher prices for startups, as long as companies continued to be “rewarded in the public markets for rapid growth, much like Snowflake” was at the time. David Ulevitch of A16z expressed a similar sentiment.

This situation may be evolving as stock prices fall. If this trend continues, startup valuations could broadly decrease, along with more complex areas of startup finance. The surge in special purpose acquisition companies (SPACs), for instance, may subside. Hippo’s CEO, Assaf Wand, suggested this week that SPACs were a response to the public-private valuation gap, acting as a catalyst to facilitate startups going public during a period of strong demand for their stock.

Without the same intense demand for growth and risk-taking, SPACs could lose momentum. Similarly, private valuations that highly-regarded startups have come to expect could be adjusted. Whether the changes we are observing this week represent a temporary fluctuation or a significant turning point remains uncertain. However, the public market’s appetite for tech stocks may have cooled at an inopportune moment for Airbnb, Coinbase, DoorDash and other companies planning to go public.

Market Notes

The arrival of snowfall this week marked a somewhat somber conclusion to a particularly dynamic period. Nevertheless, there’s plenty to discuss from the business world. Here’s a summary of this week’s key market developments:

• We previously examined the rapid expansion experienced by startups during the third quarter. Drift, a company we’ve followed, also shared its results. The Boston-based marketing software provider informed The Exchange that its revenue increased by over 50% in Q3 compared to the same period last year, with the CEO noting that June and the entire third quarter represented the company’s strongest month and three-month period on record.
• The strong performance of fintech companies continued this week, as DriveWealth secured approximately $57 million in funding. This startup is another example of a company leveraging an API-driven model. It’s not unexpected to see success for a company positioned at the intersection of two significant startup trends this year. DriveWealth enables other fintech businesses to offer their users access to U.S. equity markets. Alpaca, which also recently received funding, is pursuing a similar strategy.

Two initial public offerings (IPOs) captured our attention this week. MediaAlpha’s market entry, with an IPO price of $19 per share, saw a rapid increase in value. Currently, the company’s stock is trading at nearly $38 per share. CEO Steve Yi explained on its IPO day that the timing was deliberate, as public markets had begun to recognize the potential of insurtech companies. The subsequent share price growth appears to validate this assessment.

However, the experience of Root presents a contrasting picture. Root, a next-generation insurance provider specializing in the automotive sector, debuted at $27 per share this week, $2 above the upper limit of its anticipated price range. The company’s stock is now valued at less than $24 per share. It seems the positive momentum experienced by MediaAlpha did not extend to Root. 

I am uncertain as to the reasons behind the differing outcomes of these two IPOs, and welcome any insights you may have (simply replying to this email will suffice).

I had the opportunity to speak with Root CEO Alex Timm following the company’s public offering. He stated that Root had been planning for an IPO for a year and acknowledged that it cannot control external market factors surrounding the debut. Timm emphasized that the substantial capital raised – exceeding $1 billion – is a significant achievement. I inquired about the company’s strategy for managing its increased financial resources, to which Timm responded that Root would remain “laser focused” on its core automotive insurance business.

Additionally, Root is headquartered in Ohio. I asked Timm about the potential implications of its IPO for startups in the Midwest. He expressed optimism, suggesting that the IPO could demonstrate the presence of skilled professionals and economic activity in the central United States, despite the region’s relatively underdeveloped venture capital landscape.

• While many companies struggled to meet expectations, Five9 successfully exceeded forecasts and raised its future guidance, resulting in a surge in its share price. The Exchange spoke with the call center software company to discuss its recent acquisition and earnings performance. The company attributed its success to providing a product that met market demands during the COVID-19 pandemic, the broader acceleration of digital transformation, and increased e-commerce activity, which has driven higher volumes of customer support requests. Several factors converged to create a favorable outcome.
• Earlier this year, Five9 issued convertible debt despite reporting substantial adjusted profits. I asked CEO Rowan Trollope about the company’s approach to investing cash to capitalize on market opportunities while avoiding overspending. He explained that the company regularly analyzes revenue performance, enabling it to adjust spending plans effectively. This strategy appears to be yielding positive results.
• Elsewhere, noteworthy funding rounds were completed by SimilarWeb, PrimaryBid and EightFold, a company with which I am familiar. I also reported on The Wanderlust Group’s Series B and Teampay’s Series A extension, both of which were interesting developments.

Various and Sundry

• How is the venture debt landscape evolving as venture capital activity recovers? We’ve been taking a closer look.
• If you follow European venture capital, you’ll want to see this update on funding activity across the continent.
• We’ve compiled a selection of 10 standout companies from recent Techstars demo events.
• Plus, we present some interesting financial analysis concerning Databricks, following reports about a potential IPO in the first half of 2021.
• We’re currently at capacity this week, but have several interesting pieces prepared for future updates, including insights from a Capital G investor on Robotic Process Automation, a discussion with the CEO of Zapier regarding the expansion of no-code/low-code solutions, and observations from a conversation with Dell Capital about developer ecosystems. We’ll share more details on these topics when the news cycle slows.

Please prioritize your safety, and exercise your right to vote.

Alex