Twitter Debut Seen Setting Tone for Startup Valuations

There’s more at stake in Twitter Inc.’s initial public offering than just shares held by employees and investors. The performance will influence how Silicon Valley’s dealmakers value emerging Web startups.

Venture capitalists and entrepreneurs will view a robust Twitter debut as a positive sign for other consumer-Internet IPOs and the prices that startups can command in funding rounds. A drop in shares -- akin to the weakness that followed Facebook Inc.’s initial share sale in May 2012 -- could chill startup valuations and send venture capital investments downwards.

“If Twitter’s IPO doesn’t go well and the six months to one-year performance doesn’t go well, it will suppress valuations in the consumer space,” said George Zachary, a partner at Charles River Ventures in Menlo Park, California, and an early Twitter investor. “It affects peoples’ animal reactions to pricing as opposed to the rational way they price.”

Facebook’s 50 percent drop in its first three months as a public company reverberated across the startup landscape. Venture investing in U.S. Internet companies fell for three straight quarters before bouncing back in this year’s second quarter, according to the National Venture Capital Association.

Photographer: Andrew Harrer/Bloomberg

Twitter Inc.'s preliminary prospectus in Washington, D.C. Close

Twitter Inc.'s preliminary prospectus in Washington, D.C.

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Photographer: Andrew Harrer/Bloomberg

Twitter Inc.'s preliminary prospectus in Washington, D.C.

Twitter has drawn more than enough investor demand so far to sell all the shares in its IPO, people with knowledge of the matter said last week. Reflecting that interest, the microblogging service today increased the price range for the initial sale by as much as 25 percent to $23 to $25 a share, seeking to raise up to $1.75 billion.

Investment Shift

Internet investing was down 14 percent in the third quarter of this year at $1.5 billion, compared with $1.74 billion in 2012, while total venture funding rose 17 percent to $7.78 billion, the NVCA said.

Software investments surged 77 percent to $3.57 billion, as investors shifted out of consumer deals and bid up prices of companies selling technology to businesses. Cloud software makers including Workday Inc., now worth $13.1 billion, and ServiceNow Inc., valued at $7.36 billion, went public last year.

“The wave of technology disruption right now is crashing on the shores of the enterprise, whereas in 2010 and 2011 it was crashing on the consumer market,” said Sharon Wienbar, a partner at Scale Venture Partners in Foster City, California.

The extent to which high-profile technology IPOs can affect startups was underscored by a letter from investor Paul Graham to portfolio companies last year following Facebook’s offering. Graham, founder of startup incubator Y Combinator, which has spawned the likes of Dropbox Inc. and Airbnb Inc., sounded a cautious tune in the missive, which he sent to graduates of the program in early June 2012, when Facebook’s stock was down 29 percent.

Be Warned

“If you haven’t raised money yet, lower your expectations for fundraising,” Graham wrote. “If you raised money in an equity round at a high valuation, you may find that if you need money you can only get it at a lower one. Which is bad because ‘down rounds’ not only dilute you horribly, but make you seem and perhaps even feel like damaged goods.”

Graham wasn’t available for comment, said Kat Manalac, a spokeswoman for Mountain View, California-based Y Combinator.

U.S. consumer-technology IPOs slowed after Facebook, with only Trulia Inc. and Kayak Software Corp. going public in the following 12 months. Executives from Airbnb and Evernote Corp. said they were delaying plans to head toward the public markets after watching the Facebook saga.

Still, any effect from Twitter’s IPO may be temporary. Facebook shares have now recouped all of their losses and more, closing Nov. 1 at $49.75, up 31 percent since the IPO. The Menlo Park-based company last week reported a 60 percent increase in third-quarter revenue, topping analysts’ projections.

What IPO?

“Nobody is talking about the Facebook IPO anymore,” said Roger Lee, a partner at Battery Ventures. “The real story of Facebook is a billion users, many migrating to cellphones, deep engagement and blowout earnings.”

Facebook isn’t the only one rallying. Yelp Inc., Trulia and RetailMeNot Inc. are among newly public consumer-Web companies that have soared this year.

On the private market, Pinterest Inc., a Web-based bulletin board that’s yet to develop a business model, raised money last month at a $3.8 billion valuation, up 52 percent from its price in February. Neighborhood social-networking site Nextdoor.com Inc. was valued at more than $500 million in a financing round announced on Oct. 29.

Private Deals

Jeremy Levine, a partner at Bessemer Venture Partners and board member at Pinterest and Yelp, said the performance of Facebook or Twitter on the public market shouldn’t alter private valuations. That’s because there’s typically a lengthy lag between when companies raise private rounds and when they tap the public markets, he said.

“By the time they go public, it’s highly likely that the landscape is going to be so different that it’s not even worth thinking about,” said Levine, who works out of Bessemer’s New York office. “My advice to any private company doing financing is don’t pay any attention to the public markets.”

Levine said Graham’s letter was “more wrong than right.”

UrbanSitter Inc., a website for booking babysitters, started its fundraising the month after Facebook’s IPO. It met with three venture firms and had a term sheet within weeks, said Chief Executive Officer Lynn Perkins. The San Francisco-based company raised $6 million from investors including Canaan Partners, First Round Capital and Menlo Ventures.

Facebook’s Shadow

“Not a single investor mentioned it, and it certainly didn’t impact our valuation,” Perkins said, referring to the Facebook IPO.

Still, the Facebook slump put a damper on the mood of Silicon Valley and gave public-market investors reasons to question the value of emerging consumer companies. Rich Wong of Accel Partners said IPOs and private financings are mostly unrelated, except for emotional ties.

“IPOs don’t directly impact early stage VC because there is often a six- to eight-year lag between investing and realization,” said Wong, whose Palo Alto, California-based firm was an early Facebook backer. “But it can impact VC psychology and optimism.”

To contact the reporter on this story: Ari Levy in San Francisco at alevy5@bloomberg.net

To contact the editor responsible for this story: Pui-Wing Tam at ptam13@bloomberg.net

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