There was a lot of buzz this past week about reports that Snapchat turned down a $3b all-cash offer from Facebook and a subsequent $4b counter-offer from Google. It’s admittedly an extremely rich valuation for a young company with no revenue. But I think there’s some nuance to note:
- I think the investor psychology and math here is important. VCs are more worried about missing out on the next Facebook/Twitter/Workday/etc. than they are in investing in the next MySpace/Bebo/etc. For say a $500m fund, the cost of not being in one of the 2-3 huge outcomes that drive investor $ returns every year is higher than the cost of writing a say $30m investment to $0. Investors, moreover, are probably more keenly aware than ever of the power law dynamics at play in tech investing (see here and here)
- There’s been some handwringing over how Snapchat will monetize. I wouldn’t be so worried about this. Consumer internet companies don’t fail because they can’t monetize. It seems unlikely that you’re going to have a highly engaged audience of hundreds of millions of users and not enough opportunities to make money. Consumer internet companies are adept at finding ways to monetize with ads and advertisers are keen to experiment with new potential ROI. The common early refrain on Facebook, Twitter, Instagram, etc. was that “they didn’t make enough money.” That, of course, turned out not to be true. There is a risk though that it doesn’t monetize as well or as quickly as its current backers hope (see Tumblr as an example).
- Part of the challenge for Snapchat is that it’s grown its user base so quickly so fast. The company is less than three years old and the rocket ship took off less than 18 months ago. It hasn’t had an opportunity to explore monetization.
- The concern of Snapchat’s team and investors should be around the product and making sure its audience stays engaged. It’s captured the teen and 20-something audience, which is also probably the most fickle set of users. I think the concern is whether these users move on to some other app over time. But I think it’s reasonable to bet otherwise as the network effects in a business like this are incredibly powerful.
- There have been some rumors that Snapchat is going to be raising another large round of funding, much of it going into secondary purchases of founder shares. I’d be a bit concerned about this. The founders already took $10m each off the table in the last round. If the rationale for pre-exit founder liquidity is to give founders the ability to go for big wins, I’m not sure how another large secondary cash out makes sense, especially given that the company isn’t monetizing. It’s one thing to sell down your stake as a founder when you’re a later stage, EBITDA-generating company. But I don’t see how it aligns investor, founder, and employee interests at this stage.