Andrew McMillan, partner at Pinsent Masons LLP, discusses what UK tech startups and scaleups can learn from Snap’s first quarterly results following its IPO.
A company might seek an initial public offering (IPO) for various reasons. These range from access to capital, to prestige; and from enhanced profile and credibility, to the greater flexibility and ability to fund acquisitions with stock, brings. Another typical driver is the ability of existing shareholders to realise some of the gains their investment has enjoyed, while maintaining an interest in the company.
These benefits come at a certain cost. In particular, the increased public scrutiny that attaches to a public listing, is something that will require careful preparation on the part of a company. In particular, a company in private ownership that has, up to the point of IPO, enjoyed a high degree of control over its own narrative, must be prepared for that narrative to be taken out of its hands and used in ways that its founders may find surprising and even, from time to time, damaging.
Control of the narrative
Snap Inc.’s IPO came at a relatively early stage in its cycle. Both Google and Facebook (or rather, their businesses) had been around for eight years or so at the time of their IPOs. By way of comparison, the Snapchat app was launched just under six years ago. Snap, moreover, had enjoyed something of a reputation for secrecy, prior to its IPO. Both of these factors led to a degree of speculation as to the motivation for the listing. Arguably, this speculation as to rationale has translated into a continuing degree of uncertainty as to Snap’s future intentions.
Snap’s first quarterly results since its IPO were released last week. In after-hours trading, Snap’s share price dropped more than 24% and some $6bn was wiped off its market capitalisation. There are a couple of things that are surprising, here.
Firstly, the sheer scale of the reaction suggests a high degree of scepticism as to Snap’s future business prospects. Secondly, some of the key underlying factors that resulted in this reaction were already known at the time of the IPO. In particular, concerns were expressed at that time as to the level of costs within the business and also as to the slowdown in user growth.
While on its call with analysts, Snap focused on a number of positives, including revenue growth. However, that growth had not been as much as the market had anticipated (just under $150m as opposed to an anticipated $158m). While it had not missed by much, this difference, along with the other figures, told their own tale and it was to this that the market reacted.
As a privately owned company, the management team would have been dealing with a relatively small group of key investors. Arguably this is also the case with a publicly traded company, which although it has a wider shareholder base, will have a smaller group of key or significant shareholders. That said, the scrutiny to which a publicly traded company is subject, and the damage to profile that can ensue from negative results, are far harder to manage.
This may have been part of the thinking behind Snap offering only non-voting shares to the market. What better remedy to negative market sentiment than not being immediately answerable for it?
Snap caused some controversy when it announced that it would be the first company to issue only non-voting shares pursuant to its IPO. Some investors were said to have been angered by this and perhaps it is, in part, a residue of this anger that is translating into increased negative sentiment, now.
Mechanisms to maintain control within the hands of founders following an IPO have been around for some time and are increasingly common within the technology sector. That said, much will depend on the venue chosen for listing.
In the UK, for example, dual class share structures are permissible in a Standard Listing on the London Stock Exchange, but not in a Premium Listing. A Premium Listing gives rise to the potential for inclusion in the FTSE UK series of indices and access to these indices is often seen as one of the key benefits of a Premium Listing, as many investment mandates are driven by FTSE indexation.
The Financial Conduct Authority published a discussion paper back in February of this year, one of the aims of which was to examine the effectiveness of the UK’s primary equity markets in supporting the growth of science and technology companies. In particular, the FCA noted the difficulties that may be faced by scaleup companies (that is, companies with an average growth in employees or turnover of more than 20% per annum over three years, with a minimum of 20 employees at the start) in accessing capital to facilitate their growth.
The FCA also noted that “it appears UK technology companies are disproportionately the subject of merger and acquisition (M&A) activity compared with their international peers” and expressed a willingness to explore changes to primary market regulation if it were felt, this could address a perceived shortage of capital for scale-up companies.
Within the market, this is a view that we hear expressed again and again. While capital is available for Seed and early stage investments, scaleup capital is far harder to access and we will watch this space with interest.