Unity went public last Friday through a unique twist on the traditional IPO process. Instead of allowing the bookrunning banks to price and allocate IPO shares, Unity maintained control of the book and set the final price of shares before allocation to the primary investors. This is an exciting development because the pricing of IPOs, and the famed first day pop, has been a topic of discussion over the past year, particularly in the tech community.
The tactic was effective based on other recent IPOs. Unity shares closed the first day of trading up 31%, which compares to IPOs earlier in the week of Snowflake, up over 100% from IPO price, and JFrog, up 47%. However, Unity’s first day pop was slightly above the equal weighted average of all IPOs in 2019, courtesy of Jay Ritter’s work at UF. Net-net, we believe you have to adjust expectations for the times. We’re in a tech bull market, and there is significant retail interest in new issues. We view the 31% first day move in Unity as a win for the company and its investors.
Before Unity’s use of what we think of as a semi-auction strategy, the talk of innovation in going public centered around direct listings. In a direct listing, the company going public doesn’t raise new capital as part of the offering and instead lets existing investors, employees, and management sell stock on the open market to initiate the listing. The benefit of a direct listing is that all shareholders are able to sell at the time of the listing, meaning the full float is available for trade on day one. In a traditional listing, existing shareholders are generally locked up for 180 days, which necessarily limits public float until the lockup expires. The full public float of a direct listing theoretically means that real price discovery can happen sooner. If only 10% of a company’s shares are available to be traded after a traditional IPO, supply is constrained artificially, and that constraint can cause wild fluctuations in the face of strong demand. See Snowflake.
There is certainly some underpricing engaged in by the bookrunning banks on an IPO. The banks are incentivized to take care of their best investing clients who will keep doing business with them in perpetuity versus a company that only goes public once, and maybe raises secondary once. That said, we think it’s unfair to position the first day pop as the true measure of the underpricing because of the aforementioned supply and demand dynamics. Public fluctuations in price on the first day of trading aren’t true discovery of price. If Snowflake’s entire float were available for trade, we do not think that first day trading would have ended with a 100%+ gain.
Taking the discussion back to Unity’s IPO process, we see their semi-auction as a new tool in the toolbox of companies looking to go public. In some ways, the semi-auction is the best of both IPO and direct listing: an ability to raise new capital and exercise some control over price. The semi-auction will likely only be available to the best companies with strong competition from banks to run their IPO. Ceding price control is not something we expect banks to do willingly, but Unity has laid the groundwork.
As it stands today, direct listings also only really work for the best companies that don’t need new capital given strong balance sheets. If direct listings ultimately evolve to incorporate the ability to raise primary capital, perhaps the semi-auction loses favor to the direct listing, and more efficient pricing becomes the norm on a public offering. Until then, we expect to see more strong tech companies follow Unity’s playbook in the future.
At its virtual product launch event, Amazon unveiled more than a dozen new or updated hardware/service offerings. While Alexa remains the cornerstone of Amazon’s hardware strategy, the event emphasized the company’s increasing ambitions around security and gaming. Seven of the 12 new offerings were related to those two categories. This year’s offerings come at a good time for the company, as consumers are spending more time at home. Here are our takeaways:
- Amazon increased the starting price for its new Echo offerings by an average of about 11%. This is a surprise, given we were expecting price reductions. We see the pricing move as evidence of favorable demand for Echo. That said, we expect Echo to continue losing smart speaker market share to Google in the years to come. Specifically, we estimate Echo will exit 2020 with 54% (48m units) global market share (excluding China), and 44% (55m) in 2021. Conversely, we expect Google’s smart speaker lineup to increase its 36% (32m) 2020 share to 48% (60m) in 2021. The reason we expect Google to gain share is because it is the more intelligent device, with a growing brand and increasing distribution.
- The company announced five new security hardware/software products as part of its Ring platform. Most notably was the expansion into auto security.
- Luna, a new cloud-gaming subscription service, was announced starting at $6 per month, and it will compete loosely with Microsoft and Google’s offerings. Users can play games with Amazon’s new dedicated Luna gaming controller ($50) or with an Xbox or PlayStation controller. Games are compatible on Fire TV, PCs, tablets, and phones. Luna will have the advantage of being integrated with Twitch, which will allow users to migrate seamlessly between playing and watching games. We estimate there are roughly 45 million monthly Twitch users. Assuming 10% of Twitch MAUs subscribe to Luna, that equates to about $300m of high-margin revenue. As a point of comparison, we expect Amazon will generate about $18B in high-margin advertising revenue this year.
- The new Eero 6 WiFi router is likely to be an important piece of Amazon Sidewalk (to launch later this year), a low-band wireless network that will begin to power the company’s first IoT ecosystem.
Walking a fine line
The strength of the lineup has some drawbacks. While smart speakers and security products are offering increasing value to consumers, they come with privacy concerns, which could soften initial demand. That said, over the long term we expect consumers to become progressively more comfortable that the value these devices offer outweighs the risks to privacy.
Tesla’s Battery Day is a wrap. Gene and Andrew discuss why it missed the mark for near-term investors and delivered the goods for long-term investors.