Reddit’s recent filing of its S-1 indicates that it is gearing up to become the first venture-backed public listing of 2024 with a bold move. The success of its IPO has the potential to set a trend and open the IPO window for other late-stage startups eagerly waiting in the wings. However, there is one crucial factor that Reddit must get right in order to spark a bullish market for exits – its valuation.
Investors who buy into the IPO are looking for growth potential in their investment, which means Reddit needs to price its shares at the sweet spot where they are not undervalued but still have room for future growth. Pricing too high initially could deter potential buyers and result in the stock trading below its IPO valuation, instead of gaining momentum.
So what is the ideal valuation for Reddit? According to secondary investors who have been closely following the company, a valuation of $5 billion or less would greatly increase its chances of a successful IPO. While this may mean some of Reddit’s more recent investors may only see a fraction of their investment returns, it is a realistic and strategic decision for the company.
One key factor that supports the $5 billion valuation is Reddit’s annual revenue of $800 million, as reported in its S-1 filing. According to Javier Avalos, co-founder and CEO of Caplight, a secondary data tracking platform, this would translate to a mid-single-digit revenue multiple, which is in line with current market trends and the valuation of similar companies in Reddit’s category.
“The valuation was overblown in the 2021 round, and as it continued to decrease, it started to become more attractive in terms of revenue multiple compared to public comps,” he stated.
The data from secondary market activity also points towards a $5 billion valuation. According to Greg Martin, co-founder and managing director at Rainmaker Securities, recent secondary deals have valued Reddit between $4.8 billion and $5 billion. This is further validated by the bids submitted by interested investors, as shown in Caplight’s data.
“Investors who buy into secondary shares so close to an IPO are only willing to do so if they believe the valuation will continue to increase after the exit,” Martin explained.
However, pursuing a $5 billion valuation is not without risks for Reddit. Despite the reduced valuation, there hasn’t been a significant increase in secondary activity for the company. This is not necessarily a negative sign, but it also shows that there is not much excitement around Reddit’s IPO. Martin believes that this is why Reddit is offering shares to its top users – to avoid the stock being dominated by “meme-trading.”
According to him, the lack of secondary and crossover investor interest could also be a factor in Reddit’s decision to try and generate early trading momentum through its users. Martin stated, “Reddit has not been aggressively traded and isn’t offering much upside. People who buy into secondary markets want to get in before the IPO pop, but I don’t think that’s the case with Reddit.”
Another reason why IPO day might not see a significant spike is because companies like Klaviyo and Instacart did not see a huge success story or an influx of IPOs as many had hoped. John Avirett, a partner at StepStone, believes that Reddit should aim to avoid this strategy.
“Bankers and management need to ensure that the valuation at which they go public is not too high, where the company would have a hard time maintaining it. Consistent over-delivery is the key to increasing these metrics,” Avirett stated.
However, there could be reasons why Reddit might be tempted to price itself above $5 billion. According to Martin, it could be trying to “piggyback” onto the “halo” effect of its new AI deal with Google or provide liquidity to late-stage investors who may not receive much return if the company goes out at $5 billion. But, according to the secondary investors, it would be in Reddit’s best interest to pursue a lower valuation, as it has robust revenue and brand recognition, and its users are not fully monetized yet.
“If Reddit prices its IPO right, which is by not pricing it too high and ensuring a good first day on the market, it could change the game for a lot of other IPO candidates to rush their exits before the summer months,” Avalos explained.
Overall, a successful IPO for Reddit not only benefits the company but also has a positive impact on the venture and secondary industries. As Avirett wisely stated, “You have to underpromise and overdeliver in a consistent manner to bring those metrics up.” And with the right pricing strategy, Reddit could see a promising future in the stock market.
