The Zynga IPO changes everything!!!! Well, not really but the last few days have been a torrent of conjecture about the future of social games, tech IPOs and Mark Pincus’ management style. We now have a publicly traded company worth several billion dollars that didn’t exist just a few years ago. Kudos to their team for building something of value. Of course how much Zynga is worth will be determined not by a blogger but by buyers and sellers. Let’s instead focus on five related questions that founders, employees and venture investors will be asking themselves going forward
1. Will late stage capital look for additional protection against valuation decreases? Well documented that last round money into Zynga invested at $14/share, substantially higher than the $10 IPO and today’s ~$9 close. Will “Series D” later stage funds look for downside protection in the future – eg warrants that convert to more shares if an IPO occurs at a valuation below their investment (a form of preferences similar to traditional venture investors)? Rounds that were previously seen as bridges to IPO might be harder to come by as a result but expect the hottest companies to call their own terms — there’s just too much capital available worldwide looking for a place to go.
2. Will executives taking money off the table pre-IPO be considered in the best interests of the company? Mark Pincus sold more than $100 million of stock at $14/share in the last round of financing. While this only represented 6% of his total holdings and Mark didn’t sell any of his shares in the IPO, perhaps the Zynga IPO will chill similar behavior going forward since no executive wants to be seen profiting above and beyond their investors or employees.
3. How aggressively will venture investors value private company shares based on late stage financings or secondary market sales? Phil Black of True Ventures noted that post-Zynga IPO they actually had to bring down the carried value of their Zynga shares from $14 to now market price. While Phil is quick to correctly point out this isn’t a true “loss” – they will still make quite a bit of money from Zynga – it does mean the expected return on their fund was lower post-IPO than it was pre-IPO. Fund management is a big deal for VCs – LPs want to know IRR. When True – or anyone else – is out raising a new fund they sure as heck report on expected returns from current funds. If VCs start to worry that late stage capital or small secondary market auctions don’t accurately reflect the public markets they might be more conservative in ratcheting up their paper valuations.
4. Will employees quit pre-IPO or pre-lockup expiration to dump shares on secondary markets? TechCrunch has reported that companies such as Twitter are seeing early employees quit in order to liquidate their shares outside of the company’s control. If IPOs are seen as valuation risks — that is, the public market is a harsher judge of value than private markets (because of more perfect information, because there’s more liquidity, etc) — then why wait for the IPO? Get out now, make your money and pay off the student loans, buy a house, etc. Who would have thought that the most successful companies would be seeing pre-liquidity retention issues!
5. Will companies turn the IPO pop back into a marketing event (while bankers cackle)? Friday’s assessment of the Zynga IPO was silly – a stock popping isn’t necessarily a sign of confidence in a company, it’s a sign the bankers underpriced the offering and/or pushed it hard to clients. And if a stock falls, it’s actually a failure by the underwriters to price properly but the company itself benefits from having raised more money than the company is now “worth.” The best outcome is a stock price which doesn’t move at all on the first day, or moves within a range of error. But no, a big pop draws attention, momentum, praise while a decrease results in negative press. Unfortunately this pressures all but the most confident of CEOs to ‘play the game’ and consider manufacturing a pop by either selling fewer shares than underwriters could sell or underpricing the company. Either action takes money out of the company coffers.