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- The Ripple Effects Are Happening...
The Ripple Effects Are Happening...
**This was originally posted to our clients April 5th, 2022**
The fallout of the bust in growth stocks has made its way into private companies.
The valuation multiples on publicly traded growth stocks have compressed by 50-75%.
Many companies were trading at 20-30x sales last year.
Now they’re trading at 5-10x sales.
What does that mean outside the obvious carnage in losses amongst public investors?
It means private company investors – and the private companies themselves – are about to feel the pain. Big time.
You see, private equity investors look to the public markets to determine valuations for their investment companies. If public company A trades at 20x sales, that’s what to expect when this company goes public.
Valuations are pegged to what those public companies were trading at that time.
Tens of billions of dollars were raised and invested in private companies before most growth stocks lost 50-80% of their value.
That means the public market is signaling to the private market, “If you bring this company public, it’s going to get this lower valuation now.”
So if a private company raised money when its public competitors were trading at 20x sales, but is actively trading at 10x sales… the private company is now likely worth 50% less.
Remember, private companies are illiquid. They can raise money two ways. By raising another private round. Or by going public.
The public markets are saying, “We aren’t tolerating the multiples we gave to these companies last year. So if you come public, this is what we’re going to value you at.”
Which means a 50% haircut.
They’re going to get the same response if they look to raise money from private investors. Private investors looking to give the company new capital are looking at what the public markets are saying. They’ll only see a return if the company gets acquired or goes public. In both instances, the public markets are the signal.
We’re starting to see the cascading effect now.
Grocery delivery company, Instacart, just raised money at a 40% haircut to its previous round. Its valuation dropped from $39 billion to $24 billion.
Private investors who bought into Instacart at the $39 billion valuation are now down 40%... with no way of getting out. Ouch.
An Instacart spokesperson said in a statement to CNN Business Friday that the company is, “confident in the strength of our business, but we are not immune to the market turbulence that has impacted leading technology companies both public and private.” (emphasis added.)
Meanwhile, Gopuff, the instant-delivery company valued at $15 billion last fall, is preparing to lay off hundreds of employees, or around 3% of its global workforce. And cut up to $40 million in costs.
Gopuff is in the same boat as Instacart. They want to go public. And were expanding based on the multiples public companies had at the peak of last year. Now things are different. Gopuff is now in cash conservation mode.
Hundreds of companies eyeing an IPO are now holding their breath hoping the public markets get back to their highs.
If not, they’ll have to raise a down round. Cut costs and conserve cash. Or worse.
The private investors in these companies are now “stuck” with no liquidity event on the horizon.
Now, private investors will give less money or give lower multiples. Less money and lower multiples mean less hiring.
Less capital investments. And so on.
This, in turn, circulates through the economy… continuing a negative feedback loop.
We echo the same advice we’ve been giving since December.
Be vigilant. Brace for volatility. Don’t go all in (or out).
Do your due diligence now. Have your shopping list ready. And when companies are in your buy range, be ready to pull the trigger.
Good investing,Lance