Multiple Directions on Multiples
Private company valuation is as much art as science, sometimes as much alchemy as chemistry. Among the few reliable and well-worn guidelines to follow are public companies and recent M&A multiples. This is why we spend so much time refining, tracking and parsing the multiples we use. Oddly, we have observed a strange lag and over-correct pattern between public company multiples and private company valuations of leading names. This appears to be happening again with a small subset of high flying private names.
The swollen ranks of the unicorn club, private technology companies valued at over $1billion, have broken away from traditional public comparable multiples. It remains far from clear how sustainable this will be. Over the last few months we have seen a generalized increase in public equity volatility. Leading tech firms reporting meaningful upside surprise numbers, and or guiding up, have sustained or increased their multiples. We have seen this in the mobile gaming space, big data, and e-commerce. The flip side has also been true. Earnings misses and downward guidance indications have produced swift and dramatic compression of multiples. Of course, information is slower and less completely distributed in the private corner of tech. This creates a lag and over-correct pattern in the private name valuation adjustment.
Private companies don’t live and die by quarterly estimates and sometimes marginally informed Wall Street expectations. These companies tend to see fortunes ebb and flow on the also sometimes arbitrary perceptions of media, competitors, the angle of opening at the IPO window and public companies’ appetite for M&A premium.
There has long been a lag between public market multiple trends and valuations in private company rounds, M&A transactions and IPOs. We expect this to hold. Thusly, the question looms, what should we expect for the balance of 2015 when it comes to valuation trends in leading private tech names? Our answer is a short lag and divergence of fortunes. We expect the global rotation of wealth to the US to continue. We further expect folks to be drawn to growth opportunities. Some of the global wealth looking to the US and growth will continue to chase big and prominent names.
We expect many new investors to continue allocating to traditional venture capital funds. Fundraising records continue to be set and broken. On January 12, 2015 Russ Garland announced in the Wall Street Journal that VC funding in 2014 was nearly $33 billion, over 60% higher than 2013. All this, the article details, follows on the heels of 105 IPOs for VC backed firms in 2014. 2014 proved a record year for fundraising and fund redemption also broken the Twenty-First Century record that used to belong to 2000. We also expect to see significant rotation to the many emerging alternative funds and vehicles that seem to be sprouting up, particularly but not exclusively, online.
The wrinkle we expect is that there will be a divergence of fortunes among private pre-IPO companies under our purview. Expectations, in some cases, have really run away from underlying probability. Some unicorns will struggle with already attained valuations and business model and conduct headwinds. Others will run away with the attention and hordes looking for the next big thing. Sadly hunters of the next big thing will likely chase what everyone already thinks is the next big thing. This never seems to change.