Let’s have a look at how the public market has rewarded some recent IPOs (return to IPO offering price @ 11/1/2019, IPO month):
Group 1) Zoom Video: +95.5% (Apr); 10X Genomics: + 49.4% (Sept); CrowdStrike: + 42.6% (Jun); Fastly: + 29.6% (May); DataDog: + 26.0% (Sept)
Group 2) Uber: – 30.3% (May); Lyft: – 40.3% (Apr); Smile Direct Club: – 45.6% (Sept)
Five lessons can be learned by making a comparison between these two groups:
i) The most important lesson is that Group 1 is formed by tech companies and Group 2 by tech-enabled companies. Markets are favoring tech companies.
Tech companies are in the business of providing technology products and services; for instance, cloud computing, cybersecurity, workplace tools, drugs, etc.
On the other hand, tech-enabled companies use technology to grow and become more efficient, yet their businesses are intrinsically grounded in another sector. The use of apps for food delivery, taxi network, micromobility renting, etc. does not automatically place these companies in the tech realm. Moreover, as a rule of thumb, tech-enabled companies have more difficulties to build economic moats – “a competitive advantage that allow companies to keep their competitors at bay for an extended period of time”.
ii) Group 1 companies typically use a software-as-a-service (SaaS) model. Their capex is focused on R&D (gray mass) and, subsequently, on sales and marketing to grow topline. Because of that, if the market mood gets sour, they can easily scale back.
iii) Group 1 companies are usually B2B, while Group 2 companies are usually B2C. Group 1 copes with “strategic selling”, while Group 2 copes with “mass selling”. In addition, churn in Group 2 can be nightmarish — continued selling to stay in the same place.
iv) Margins matter; investors are not willing to subsidize losses forever. Group 1 companies are already EBITDA positive or clearly approaching it. Value is a function of both growth and margins.
v) The Group 2 companies had also governance problems based on the high-profile of their founders. Beware of the “yogababble” factor –- the level of non-accurate and concealing language in the companies’ communication.
If you want to invest in tech B2B companies, look for them in the US.
Brazilian startups are exclusively of the tech-enabled B2C type. Brazil does not hold a competitive advantage in science & brains, but it offers a large market (210 million people) to be served. In addition, B2B has dramatically weakened in Brazil because the middle-B has been decimated throughout the recession period.