Before January slips away, I thought it would be worthwhile to make a few predictions for 2011. If I am proven right, I will be gloating about it in a December 2011 blog entry with my feet in the sand and a Bloody Mary in my hand. However, if I am proven wrong, I will never again purchase a Flux Capacitor on eBay.
I foresee another transformational year for the secondary marketplace. 2010 was the year when substantial investment demand for social media companies gave birth to a new marketplace where consumer recognizable companies in the sector, albeit, private, were able to provide liquidity to employees and investors as well as significantly grow their market capitalizations while steering clear of the public marketplace. As most fund managers wasted 2010 in the public
markets vying for companies that generated lackluster returns, private companies trading in the secondary marketplace, such as Facebook, Zynga, Twitter and Groupon, grew exponentially, in many cases by triple digits.
In fact, NASDAQ’s only tech savior last year was Apple’s stellar 50%+ growth. The rest of the “big names” in tech including Google, Microsoft, Hewlett Packard, Cisco Systems, and Intel all underperformed while the “emerging names” in tech were able to leverage the momentum and novelty of the second marketplace in order to obtain lofty valuations which were subsequently validated by traditional Wall Street. Prime examples include: Goldman Sach’s $450 million investment into Facebook at a $50 billion valuation which promptly followed a second market auction in which Facebook shares traded at a valuation in excess of $50 billion; Kleiner Perkins Caufield & Byers’ $200 million investment into Twitter, a company still trying to figure out its revenue model, at a $3.7 billion valuation and Groupon’s recent $6 billion rejection from Google and rumors to go public in the Spring of 2011 at a $15 billion valuation.
So what’s in store for 2011? Will last year’s second market leaders rush to join Apple in resuscitating NASDAQ? Or will they stay private and in order to capitalize on higher P/E’s in the second market? If they flock to NASDAQ what will become of the second market? What position will the regulators take with respect to the growing number of “Special Purpose Vehicles”? Will the snow in the Northeast ever melt?
Innovations such as the iPad and competing tablets, smart phones and social networking platforms are not only revolutionizing media as we know it, but are inspiring a renaissance of modern businesses. This movement will give rise to an entirely new generation of companies ripe for a second market platform. As a result, I predict that the second market is not only poised for sizeable growth but for significant evolution, and that the companies that came of age in the second market during 2010 will become the graduating class of 2011 while today’s incoming freshman develop into tomorrow’s second market leaders.
Ladies and Gentlemen, I introduce to you the graduating class of 2011:
I can certainly envision LinkedIn, Zynga, Groupon and Facebook, dressed in their caps and gowns, accepting their second market diplomas during a commencement speech given by some jubilant banker at Morgan Stanley already counting his IPO banking proceeds. This begs the question, will the public marketplace permit these companies to sustain the massive growth rates achieved in the second market? I find it highly unlikely.
I believe that even Facebook, this year’s obvious valedictorian, will be hard pressed to repeat last year’s astonishing performance. Yes, Facebook has ingrained itself into pop culture and has forever altered people’s lives. Yes, it has revolutionized how we share information, communicate and conduct business. Yes, Facebook possesses the infrastructure, userbase, recognition and ample cash to grow substantially and morph into a global gorilla. However, the company currently only generates $4 per user, a far cry from Amazon’s $189 per user. Given that Facebook has the potential to significantly grow this figure in a very rapid time frame, I believe that it will in time exceed the $65 billion valuation it recently received on SecondMarket. I simply have a difficult time believing that Facebook will be able to justify trading at 25 times 2010 revenue in the public market when Google is trading at 6.7 times and Amazon at 2.7 times. Then again, Facebook never ceases to amaze, and there would be a number of events that would compel me to consume as many shares as I possibly could, such as the release of The Social Network Part Two or if Zuckerberg is given the Nobel Peace Prize for reuniting two friends on Facebook who hadn’t spoken in 30 years because of a falling out in the fifth grade over a peanut butter and jelly sandwich.
Realizing that hindsight is 20/20, the ideal time to have purchased Facebook stock would have been last year when it was a second market freshman trading at an $11 billion valuation or even 6 months later when it was a sophomore trading at a $25 billion valuation but not now as a senior with a swelled ego palling around with Goldman Sachs.
In my opinion, it is second market’s incoming freshman class that will offer this year’s greatest investment return. The class that is made up of short, awkward, pimply faced adolescents whose names have yet to be heard, the crowd Goldman Sachs wouldn’t be caught dead with at the Homecoming dance, but the ones who one day grow up to become McDreamy. And boy do they grow up fast these days.
Technology is propelling at an unprecedented pace. To put it into perspective, it took radio 38 years, television 13 years and the Internet only 4 years to reach 50M users. Facebook added 100M users in just 9 months. According to Silicon Alley Insider, it took the iPad 9 months to reach the level of sales it took Mac 27 years to achieve. This acceleration of technology has given rise to a new breed of companies that mature at extraordinary speeds. It took Zynga less than 4 years to grow its market cap to $5.5 billion. It took Groupon less than 3 years to go from a start-up to receiving a $6B acquisition offer and to amass more than 50 million users worldwide and annual revenue of more than $1 billion.
I feel that the booming app market, alone, has the potential to hoist a number of freshmen into the high school stratosphere. It took Apple’s App Store just 2 ½ years to grow from 500 to 350,000 apps. Apple’s 10 billionth app was recently downloaded, equating to approximately 62 apps per each of its 160 million iOS users. World Mobile Applications Market, a U.S.-based market research firm, found that the global application market was one of the few industries not affected by the recent economic downturn. In 2008, mobile apps saw 146% growth in terms of downloads, going from 450 million downloads in 2007 to 1 billion in 2008 to 6.4 billion downloads in 2009. According to a December 2010 report from IDC, the mobile application marketplace will see 76.9 billion downloads and will generate $35 billion in worldwide revenue by 2014, up from $6.8 billion in 2010.
The students are exceptional. But what can we expect to see from the Faculty?
I anticipate increased regulation in the second marketplace; perhaps in requiring companies to provide a greater level of transparency. This can possibly have a beneficial impact, as it could very well raise comfort levels and attract new investors to the marketplace. But how regulators will eventually view the “Special Purpose Vehicle” is a difficult prediction to make. If the S.E.C. decides that SPV’s are primarily used to circumvent rule 12g5-1(b)(3) and that each individual investor in the SPV is indeed considered an individual shareholder in the company, it may force a number of companies to go public prematurely which won’t benefit anyone except, perhaps, the investment bankers collecting the IPO fees. Furthermore, there will need to be a very clear set of rules distinguishing SPV’s from other pooled investment products that count as only one shareholder. Whichever way they rule, I believe the future looks bright on Second Street. And I will pretty much guarantee that the majority of this snow in the Northeast will have melted by December 2011.