The Slow Death of the Traditional IPO

In October 2019, former Facebook executive, and current CEO of Social Capital, Chamath Palihapitiya announced that his Special Purpose Acquisition Company (SPAC) was acquiring Virgin Galactic. The deal –  a “reverse merger” – involved Palihapitiya’s publicly traded corporate entity acquiring Virgin Galactic in order to take it public. On the floor of the New York Stock Exchange (NYSE) Palihapitiya declared: “these kinds of transactions and processes are the future. A lot of that traditional oligopoly and monopoly run by Goldman [Sachs] and Morgan [Stanley], those days are numbered.”

With that proclamation Palihapitiya was predicting the decline of the traditional Initial Public Offering (IPO), which is historically the most common way for a private company to raise capital while achieving liquidity through the public markets. Since then, SPACs have become increasingly common vehicles used to take companies public. In 2020 over $36 billion was raised via SPAC, which is more than double the previous record set in 2019. Further, almost half of the public listings in 2020 have been SPACs. It appears these previously obscure investment vehicles are here to stay.

Generally, this is how SPACs work: a SPAC sponsor raises money in the IPO process and uses that capital to search for a private company to acquire and take public. The Wall Street Journal referred to SPACs as “big pools of cash, listed on an exchange, whose sole purpose is to do an acquisition.” That is why SPACs are often called “blank check companies.” Palihapitiya originally raised $600 million in 2017 for the SPAC that ultimately acquired Virgin Galactic in 2019.

SPACs offer several advantages over traditional IPOs, which involve hiring investment banks that spend months raising capital from institutional investors. Alternatively, SPACs provide a quicker and simpler route. According to Bloomberg Law, “the appeal of SPACs lies in their combination of the benefits of an IPO and the flexibility of M&A, all at a reduced cost and in a faster timeframe.” Amid recent volatility and uncertainty, this option has been particularly appealing for many companies.

Palihapitiya isn’t the first investor to seek out alternatives to the traditional IPO process. Benchmark Partner Bill Gurley, one of the best known venture capitalists in Silicon Valley, has called for early stage companies to look for new paths to the public market. “In the past three years it’s gotten worse and I think that’s because the IPO process has devolved,” said Gurley on CNBC in 2019.

Jay Ritter, a professor at the University of Florida, published a paper that Gurley frequently cites. Ritter found that investment banks have “less focus on maximizing IPO proceeds due to an increased emphasis on research coverage.” Ritter also claims that “allocations of hot IPOs to the personal brokerage accounts of issuing firm executives created an incentive to seek rather than avoid underwriters with a reputation of severe underpricing.” In other words, the traditional IPO contains an array of conflicts of interest. As a result, investment banks have often mispriced companies to the benefit of underwriters and to the detriment of the issuers’ long-term shareholders.

In addition to SPACs, companies are also going public via direct listings. Direct listings cut out the middlemen involved in a traditional IPO. They also don’t involve raising capital. In a blog post earlier this year, Gurley wrote that direct listings are “much simpler than a traditional IPO. You just remove the two steps where the shares are intentionally underpriced and then given to the investment bank’s best clients … then you jump straight to the market-based match.” Many prominent companies are choosing direct listings over IPOs, a trend that began with Spotify’s direct listing in 2018. This September the data-mining company Palantir completed a direct listing on the NYSE.

For the first time in decades the traditional IPO has serious competition. There is no longer only one path to the public markets. While the traditional IPO won’t go away overnight, the rise of SPACs and direct listings is creating a new landscape in the capital markets.

Nvidia Buys Arm for $40 Billion

On September 13, 2020, Nvidia announced its intention to purchase Arm Holdings from Japan’s SoftBank for up to $40 billion. It will be the largest purchase in the global semiconductor industry if the deal goes through. The purchase will potentially bring Nvidia a competitive advantage over a technology that powers everything from mobile devices to data centers.

Nvidia and Arm have very different expertise and business models although they share an industry. Nvidia makes graphics processing units (GPUs), expensive and specialized accelerator chips that are originally developed to handle video streams. Nowadays, GPUs have become the main computing engines used to train artificial intelligence systems, making them a key technology in data centers. In contrast, Arm licenses blueprints for general-purpose chips that support a variety of devices ranging from smartphones to cars. Arm’s customers ship more than 20 billion Arm designed chips every year.

One motive for Nvidia’s purchase is to use Arm’s expertise and build its own version of the general-purpose processors that power the data-center computers. Jensen Huang, Chief Executive of Nvidia, commented that Arm’s technology was “quite extraordinary” because it is very energy efficient. Data-intensive tasks like artificial intelligence can cause massive increase in energy demand. Therefore, Arm’s low-power design fits well for data centers and can be a key weapon in the competition with Intel in the lucrative data center market.

Before announcing the deal with Arm, Nvidia had already reported strong demand from data center customers during the pandemic and had seen a 50% increase in revenue in the latest quarter. Its shares had risen by about 56% in the three months since its earnings report in April, propelling it past Intel to become the world’s most valuable chipmaker.

However, the deal has caused concerns. Major customers of Arm including Apple, Samsung, and Qualcomm have not shown any sign of supporting the deal. Arm’s business model relies on licensing designs for a variety of chips, not on competing with its customers by selling chips directly. Customers worry that once the deal is done, Arm will lose this neutrality and give Nvidia, a major rival for Arm’s customers, preferential access to its designs.

As a response, Nvidia has expressed the intention to keep Arm’s business model intact. As Nvidia strives to supply a complete data center computing platform, it would sell parts of the technology separately, Mr. Huang said. Other companies would still be able to license its intellectual property for use in their own chips.

Most of Arm’s customers choose to wait and see whether Mr. Huang will live up to his promise. Nevertheless, if the two sides push through the deal, this transaction will have the potential to change the landscape of the semiconductor industry in the near future.

Lessons From 2008: How the Downturn Impacted Venture Funding

While “it’s tough to make predictions, especially about the future,” hindsight from the past financial crises can enlighten the path ahead. The International Monetary Fund recently labeled the current “Great Lockdown” the worst economic downturn since the Great Depression of 1930, the reason being the cumulative output loss to global GDP over 2020/2021 of around $9 trillion – assuming the pandemic fades in the second half of 2020. Under this hypothesis, advanced economies are expected to shrink -6,1%, whereas emerging markets and developing economies should expect a negative growth rate of -1% and -2,2%, excluding China.

 

When it comes to the venture industry, the most accurate comparison to the current crisis is the financial crisis of 2008. Back then, aside from the presentation named “R.I.P. Good Times” given by Sequoia Capital as a warning for their portfolio companies, some believed that “50-80% of the venture-backed startups currently operating will shut down or go on life-support within the next 18 months.”

 

Analyzing the numbers from 2008, the seed-stage financing was the least impacted of the early-stage rounds, given seed dollars grew in 2008, 2009, and 2010. Seed volume counts grew globally 29% year over year in 2009 and more than 50% in 2010, 2011, and 2012. Thus, the earlier stage the company, the less impacted it was. On the other hand, the investing environment for Series A, B, and C shifted gravely, decreasing more than 40% in dollar volume in 2009 and around 28% in funding counts in the same year. Series A counts rose above the 2007 numbers in 2011, while Series B did so in 2013 and Series C only in 2014.

 

Overall, VCs investment dollars dropped 40% and bounced back by the second quarter in 2010 to reach similar levels as before the crisis. However, aggregated deal count was steady and increasing from 2006 to 2012, aside from the third quarter of 2008, which means that VCs were maintaining investment rounds, but valuations and deal sizes were responsible for the decline in the number of dollars invested.

 

A few theories can be used to interpret those numbers. Some may believe that startups are prone to burn less cash during a challenging financial environment, which drives less growth and, therefore, lowers companies’ valuations, shrinking deals closer to seed-stage parameters. Also, some may guess that at that time seed investment was growing as a new institutional founding class due to innovation in cloud and mobile: it became cheaper to start a company and new business opportunities arose from the wave of technology, hence the scenario favorable to seed investment.

 

Even in 2008, some advocated the belief that startups could be created during a recession – despite the resistance of investors – as the main element inherent to successful startups is the quality of their founders. Nowadays, it is clear that a few successful companies were started amid the financial crisis, such as Airbnb, Stripe, Mixpanel and PagerDuty – all software companies built with small teams. Following their track, similar companies should be ready for the economic rebound by building its software, getting initial users, and showing their product to the world.

Lessons From 2008- How the Downturn Impacted Venture Funding

COVID-19 Leaves Its Mark In Silicon Valley As Layoffs Take Over

The coronavirus has hit our communities and our healthcare systems hard, and it has served staggering blows to the global economy. As of Tuesday, the total number of unemployment claims in the U.S. surpassed 20 million in just four weeks, an occurrence which the New York Times and others are saying has not happened since the Great Depression. Just as Silicon Valley companies benefited from bullish economic confidence reflected in outsized rounds in recent years, companies and their employees are now feeling the reverberations of an economy in crisis.

According to Layoffs.fyi, a publicly accessible database compiled through public reports, more than 8,000 individuals have been laid off by companies in the San Francisco Bay Area alone as of April 17. Not surprisingly, consumer facing platforms like Yelp were hit hard, with that company making the biggest cut recorded in the Bay Area: 1000 people. Yelp announced that it had furloughed an additional 1,100 workers, according to the San Francisco Chronicle. Other sensitive sectors, like real estate, are suffering due to the crisis as well. Notably, Softbank-backed Opendoor, a company which aims to streamline the home-buying process, let 600 people go last week–a full 35 percent of its workforce. The company, which has temporarily suspended homebuying, raised a known total of $1.5 billion in debt and equity during its lifetime. Other popularly recognized companies like Bird, Everlane, ZipRecruiter and many others have also cut staff. According to TechCrunch, rough data may suggest that companies are targeting layoffs in secondary satellite offices, where business development-focused teams are often concentrated.

Beyond layoffs, companies are making other strategic financial decisions to lengthen their runways should the virus continue to wreak havoc in the U.S. for the foreseeable future. Airbnb has yet to announce massive layoffs, but has frozen hiring, halted its marketing efforts, and raised a $1 billion debt round, with another reportedly to come. Most recently, People.ai, a sales and marketing startup which had raised $60 million in May 2019 at a post-money valuation of $500 million, raised tens of millions in debt in addition to layoffs. Other companies, like ClassPass, which reportedly lost over 95 percent of its revenue in 10 days, have pivoted their platforms online to weather the storm.

Interestingly, while shelter-in-place orders are significantly affecting many sectors, according to TechCrunch, it appears that some lending-focused fintech companies are finding opportunities to carve out their own spots in the market of debt financing for small businesses. Companies like Kabbage, which furloughed a significant portion of its staff, may be able to facilitate the disbursement of much needed small business loans.

With all of these developments and in these unprecedented times, it’s unfortunate that thousands of workers will likely now face even more difficult financial challenges. Whether companies that do end up making it through this crisis will maintain future investor confidence remains to be seen. It seems unlikely that the state of affairs will shift back to that bullish market anytime soon.

COVID-19 Leaves Its Mark In Silicon Valley As Layoffs Take Over

SoftBank Selling Off its Most Prized Assets, Signaling the End of a Buying Spree?

Once known for its unorthodox style and on-the-spot deal making, Japan’s SoftBank Group Corp. is significantly changing its outlook to stop the plunging of its stock price and shore up its debt-laden balance sheet. After a very damaging 2019, which saw Softbank-backed WeWork lose 80% of its valuation and Uber’s stock falling by 37%, Softbank’s CEO Masayoshi Son recently announced his plans to sell the firm’s assets and repurchase firm stock in a bid to stop the floodgates from opening, so to speak. It earmarks up to $18 billion for share buybacks and another $23 billion to redeem debt and build up cash reserves. The cash will come from the sale of as much as $41 billion of SoftBank’s assets, chief among them a stake in Chinese e-commerce giant Alibaba Group Holding Ltd. that is worth between $104 billion and $109 billion, and SoftBank’s majority stake in Japan’s third-largest cellphone carrier, called SoftBank Corp.

This marks a remarkable turnaround for Masayoshi Son and his company, which was until recently one of the boldest providers of capital to several billion-dollar unicorns around the world. Softbank’s First Vision Fund invested almost $80B out of $100B over the course of just two years after its |revealed that SoftBank was involved in over 10% of global venture flows in the first half of 2019, either via its Vision Fund or related entities. Buoyed by the performance of its first Vision Fund in Q2 2019, that showed a $15.9B gain in paper value of its investments, CEO Masayoshi Son also announced plans for a second $100B+ Vision Fund. But a disastrous WeWork IPO attempt, job losses at more than ten of its US-based investments, and further worsening of the market due to COVID-19 crisis, Softbank is now faced with disillusioned investors, and its grand plans have come to a grinding halt.

It is however not the first time that Mr. Son has seen a market crash pummel SoftBank’s fortunes. In the early 2000s, the Japanese entrepreneur briefly became one of the world’s richest men, before the subsequent tech crash wiped out 99% of SoftBank’s value along with the value of hundreds of tech investments the company had at the time. Mr. Son has said he learned from that experience to keep a reserve of cash and a healthy ratio of assets to debt, in case the market collapses again. The asset-sale plan, though potentially good for holders of SoftBank’s debt and shares, could end up robbing the company of some of the qualities that made it attractive for investors.

SoftBank’s record loss shows that throwing cash at startups isn’t much of a strategy. One thing stands out though – SoftBank made its most successful bet, a $20 million investment in Alibaba in 2000, during the dot-com bubble. Two decades later, it is still banking on the Chinese company to make up for its souring startup investments.

 

 

Small Online Businesses Spur Economic Growth in Unexpected Places

With the world’s attention intently focused on economic indicators in the fallout of the COVID-19 pandemic, new research highlights the key role that small online businesses play in the economic growth of local communities. In collaboration with GoDaddy, a new study authored by researchers from the University of Iowa and Arizona State analyzed measures of local prosperity and economic opportunity in relation to a county’s number of online ventures. Specifically, the study examined the density by zip code of over 20 million actively-registered domain names across the U.S. and compared the results to an Economic Prosperity Index (“EPI”) comprised of factors like a county’s housing vacancy rate, poverty rate, and percent change in the number of jobs.

The researchers used the online ventures as a proxy for entrepreneurialism. GoDaddy estimated that approximately three-quarters of these “ventures” are business-related, and although most small online ventures remain side hustles, about one-fifth of the entrepreneurs surveyed said their web businesses are their main source of income. More than half said their web ventures generated some household income. The study found that each highly active venture adds $331 of growth to county median household income over a two-year period. This trend holds even after standardizing certain factors like education level, ethnicity, and geography.

This study implies potential policy solutions for alleviating the economic disparities between select groups of coastal cities that have seen an explosion in economic activity and many rural areas that have lagged behind. According to Karen Mossberger, one of the study’s lead authors and a professor at Arizona State, trying to lure a big tech company into a city by using tax breaks or other incentives might be misguided. A better solution for many communities should be tailored around building programs geared towards helping these tiny digital businesses thrive.

Small Online Businesses Spur Economic Growth in Unexpected Places

Federal Government Announcing Stimulus Package to Support Small Businesses

On March 27, 2020, Congress approved an economic relief plan to stimulate small businesses severely affected by the shelter-in-place order, and the subsequent economic downturn, amid COVID-19. The relief plan is known as the Coronavirus Aid, Relief, and Economic Security (CARES) Act, which incorporates expanded unemployment insurance, a paycheck protection program, a refundable payroll tax credit and deferring social security payroll tax payments for employers.

The paycheck protection program allocated $350 billion as part of the $2 trillion stimulus package to assist small businesses with less than 500 employees (or otherwise meet the size standard of the Small Business Administration (SBA)), sole proprietors, and independent contractors. The program is intended to help these businesses retain workers, maintain payroll, make mortgage payments, pay leases and utilities costs, and actively encourage their employees to take paid sick leave (or fulfill family obligations due to government-mandated shut-down order) all over an 8 week period. The CARES Act provides that these loans do not require collateral, recourse to business owners, or personal guarantees. Even if the borrower is not granted loan forgiveness, small businesses are still entitled to a 1% low-interest loan with principle and interest deferred for 6 months.

The New York Times recently reported that the Treasury Secretary is considering expanding the small-business loan program by supplementing another $250 billion funds from banks. Economists anticipate that funds claimed will be more than three times as much as that Congress originally approved in avoidance of overwhelming bankruptcies.

As of the last week, thousands of small businesses had submitted applications for more than $40 billion loan forgiveness. At this point, SBA-approved lenders may heighten the bar for applications and specify additional requirements. Wells Fargo declined to lend more money after it reached the $10 billion lending cap. A similar practice is expected to exist for other lenders, allowing them to figure out how to handle applications and wait for further SBA guidelines.

Along with PPP loans, small businesses have access to Economic Injury Disaster Loans (EIDL)  (granted by the SBA) to overcome economic frustration, since all states have declared the pandemic a disaster. EIDL is also accessible for sole proprietors or independent contractors, with eligibility determined solely by credit score and self-certification.

In terms of taxation policies, the CARES Act allows employers to defer paying social security tax incurred in 2020 over the next two years. Half of the amount is required to be paid by December 31, 2021 and the other half by December 31, 2022. The law also provides that employers are eligible for a 50% refundable tax credit between March 12, 2020 and January 1, 2021 for those whose operations were fully or partially suspended due to the coronavirus outbreak.

With an array of financial efforts, the federal government is trying to stabilize the economy and strengthen small businesses amid the COVID-19 pandemic. According to Rebeca Romero Rainey, president of Independent Community Bankers of America, the Federal Reserve is also considering additional funds and alternative financial solutions for small business relief, such as buying the loans in a secondary market facility

Federal Government Announcing Stimulus Package to Support Small Businesses

European Banks Prepared for a Crisis. But Not This One.

The European Banking Authority had planned to launch its fifth stress test this year. The results were supposed to be announced by July 31, 2020. However, before the Authority could start this practice drill, it was hit by the real and bigger economic shock—the financial impact of the novel COVID-19. The effect of COVID-19 has subsequently surpassed the Authority’s worst-case scenario figures. The impending threat of bad loans, the freefall of the stock market, the standstill on production of goods, and the non-stop depreciation and amortization indicates that the European economy will decline by as much as 10%.

Some analysts believe the impact has been manageable thus far. Regulators, however, are questioning the ability of European banks to absorb this impact if it continues for a longer period of time. They are worried that this might result in a credit crunch and financial meltdown.

The European Central Bank had flooded the financial system with cash in order to avoid a bankruptcy or bail-out, but this might not be enough. The European banks did not fully recover from the last financial crisis, and some, like Deutsche Bank, are still suffering heavy losses. This is partly because the European economy depends on banks even more than the US economy. European companies get more than two-thirds of their credit from banks as compared to US companies, which only take one-third from banks and otherwise issue corporate bonds.

The European Central Bank plans to further tackle the COVID-19 blows by buying up to 1 trillion Euros of government and corporate bonds. This buying process, named the ‘Pandemic Emergency Purchase Program’ (PEPP), will help banks hold down interest rates while making it easier for them to extend loans to small and medium scale businesses and households. The Central Bank’s regulatory arm has allowed banks to deploy capital they were required to set aside for only grave emergencies. Countries including Italy and Germany are providing credit guarantees so that struggling businesses can still get loans.

Beyond the traditional financial threats the banks are facing, they also face the risk of cyberattacks and data breaches for traders, loan officers, and tech specialists now that they are working from home. Data privacy remains a constant concern for financial institutions and will become increasingly important as countries remain under lockdown.

European Banks Prepared for a Crisis. But Not This One.

Social Media, Fake News, and COVID-19

Governments and citizens around the globe are working hard to fight the COVID-19 pandemic. However, this is not only a fight against the virus, but also against the anxiety that the virus caused. Day by day, the psychological war against the virus escalates by the leakage of fake news.

Fake news has been used for various agendas in recent history. Research shows that Americans fear fake news more than they fear terrorism because fake news deteriorates their confidence in government institutions.

Lately, fake news saying that President Trump will declare a national quarantine has started to spread around the nation. Such messages urge people to stock up on food and supplies, and “forward” the information “to their network.” But rather than being helpful, such misinformation spurs disrupted supply chains and food waste.

Other rumors spreading around social media state that COVID-19 is a bioweapon, notwithstanding the constant confirmation by health officials that COVID-19 is not a genetically manipulated virus. President Trump has responded by saying that “foreign groups are playing games,” using fake news as a political tool.

As social media companies take measures to combat fake news, the originators change tactics and have started to disseminate fake news in image form. These image often look sophisticated, as if they have been released by a governmental institution. Furthermore, images are more difficult for computers to analyze and fact-check than are words alone.

COVID-19 related fake news has elevated the debate surrounding the weaponization of social media. Social media companies are manipulated by the spread of misleading information. Furthermore, social media companies have demonstrated how they can manipulate speech by deleting and blocking information around their platforms.

The persuasive power of social media highly depends on the credibility that users give to the platform. Users should be careful to assess the information they see on social media, rather than automatically forwarding what they have read. Otherwise, users contribute to the idea that social media companies have become more powerful than governments via their ability to manipulate public information.

Social Media, Fake News, and COVID-19

Tokyo 2021: A Symbol of Mankind’s Victory Over the Coronavirus?

On Friday March 20, with little fanfare and much difficulty, the Olympic flame made it to the city of Ishinomaki, Japan. In the days prior, the Japanese delegation tasked with bringing the flame was first forced to quarantine for two weeks and afterwards received the flame in an empty stadium in Greece. Onlookers were similarly kept away from the Friday ceremony. Less than a week later, Tokyo announced the games would be postponed.

Few coronavirus-related cancellations have been as high-profile as the decision to postpone the 2020 Tokyo Olympics to July 2021. The Japanese economy was already predicted to enter into a recession before the coronavirus became a global pandemic. Many hoped that the Olympics would be the secret ingredient to spark a recovery of an economy that peaked in the 90s and after a dramatic crash never recovered. But postponement does not have to shatter these hopes. Far from it: there could be great appetite for an international extravaganza symbolizing humanity’s victory over the pandemic in the post-corona world.

It is hard to understate how symbolic winning the Olympics bid in 2013 was for Japan. In March 2011, the country had experienced widespread destruction following an earthquake, tsunami, and nuclear disaster. In 2012, Shinzo Abe took office through a campaign that focused on economic revitalization and brought a much-needed end to the revolving door of Japanese prime ministers (since 1989, Japan had had as many as 17 prime ministers). Thus, as an economy-focused leader of a ravaged country plagued by political instability, Abe eyed the Olympics as the event that would show the world the rebirth of Japan. After all, he personally remembered how the 1964 Tokyo Olympics had signified Japan’s rebirth after World War Two. And so it was that on March 20, the Olympic flame was brought to Ishinomaki, a city in an area that had suffered more than 3,000 deaths in the 2011 disaster.

Winning the bid in 2013, few expected Abe to last in office long enough to be overseeing the 2020 Olympics, but here we are: Abe became the longest serving prime minister in 2019 and still enjoys widespread support. And unwilling to jettison the project that almost became synonymous with its mandate, for much of March 2020 it seemed that the Abe government was going to hold the Olympics as planned “come hell or high water.” In fact, some went as far as accusing the government of purposely suppressing reported infection rates in an effort to save the Olympics. These critics point to the fact that, enigmatically, Japan reports just over 2000 active cases currently, despite being one of the first countries hit by the virus, and despite barely testing or implementing any lockdowns. In any case, on March 24 the government finally faced reality and decided to postpone the games until July of next year.

The decision to postpone will have far-reaching economic effects. Analysts predict that the Japanese economy, already expected to retract 1.1% in 2020 prior to the announcement, will now probably shrink by 1.6%. More than half of the expected tourism volume will be wiped out. Postponement also poses a logistical challenge: many of the Olympic Village apartments had already been sold for the period after the 2020 Games, and hundreds of thousands of hotel nights had been booked. By far the largest impact of the postponement will be on the hotel industry, which is already in precarious waters amidst the corona pandemic.

But Tokyo 2021 could nevertheless turn out to be quite the economic boon. Broadcasting rights and sponsorship contracts can be rolled over into next year. Moreover, one of the largest benefits offered by the games is the government’s spending spree on infrastructure projects prior to the event. Those have largely completed—the government has already deployed most of its 1.35 trillion yen ($12.6 billion) budget. Historically, countries typically report more growth in the years ahead of the games than the year of the game.

But perhaps most importantly, the 2021 games can become a symbol of rebirth for the world, not just for Japan. In a March 24 press conference, Abe vowed to make the 2021 Olympics a “symbol of mankind’s victory over the coronavirus.” While perhaps somewhat cliché, this could prove to be an effective marketing slogan. And for Abe personally, who is expected to finally leave office in 2021, next year’s Olympic Games will be his chance to finish a long-lasting premiership with a bang.

Tokyo 2021- A Symbol of Mankind’s Victory Over the Coronavirus?