Fidelity, the Unicorn Slayer


Monthly valuations… bad idea?

By Arianna Simpson (Early Stage Investor)

This post originally appeared on Medium.

Are the price tags on the billion dollar babies justified? Is the entire tech industry overvalued? Is 2016 the year where it all comes crashing down? The whole Valley has been buzzing with these questions for some time now, and while it’s safe to say most of us have read about it ad nauseum, it might be time to think critically about whether our sources are credible and the conclusions make sense.

Over the past several months, Fidelity has issued its standard monthly reports valuing some of its best known later-stage startups in the firm’s mutual fund portfolios.

While some unicorns escaped unscathed, overall Fidelity seems hell-bent on culling its own herd. Its practice of valuing companies on a monthly basis imposes public company-level scrutiny on the very private companies it chose to invest in. It’s tremendously short-sighted, and creates volatility where there need not be.

In 1999, the median time to IPO was 4 years. In 2014, it was 11. One of the primary reasons tech CEOs are putting off IPOs for so long is that it allows them to focus on creating long-term value. They aren’t interested in making decisions based on the looming approach of a quarterly earnings call, and with good reason. Not having to answer to public shareholders allows them to make riskier, more innovative decisions which often pay off in a big way, but which require longer time horizons to come to fruition.

In the last round of revaluations, for instance, Fidelity marked down its Snapchat shares by one tenth of one percent over the previous month’s assessment. -0.1%. What does that even mean? For all intents and purposes, Snapchat is still Snapchat. No changes in management nor strategy should be made as a consequence of such a minute markdown. If a share price repeatedly changes dramatically from one month to the next, that says more about the evaluator’s inability to accurately price the asset than it does about the shares themselves. A month is far too short of a time period over which to truly assess changes in value of a company — a quarter might work, but a half would be better.

There is a reason VC funds typically price their portfolio once a year, rather than on a monthly basis. Even the top funds would have an LP mutiny on their hands every other month if they did this. Imagine the deluge of inquisitory emails! So why Fidelity opts for such a myopic time window is unclear. The whole process is only made more nonsensical by the shroud of secrecy that surrounds the actual process of determining share prices — per Fortune, Fidelity “does not comment on the specifics its monthly valuations, except to say that it uses an internal Fair Value Committee that determines the appropriate price for each security.” Sure Fidelity, if you say so.

And yet what happens? Loud voices start hollering that valuations are off, the unicorns are dying, tech is overvalued, and we’re just a few steps away from perishing in Mordor. Nevermind that the total number of internet users has tripled in the past decade, and billions of new consumers are coming online for the first time. Nevermind that people are spending way, way more online than they ever have  — US ecommerce and online advertising spend in 2014 was 15x that in 1999, and yet e-commerce is still only an astonishingly low 6 percent of retail spend. Nevermind that it’s profits, not P/E multiples, that are driving returns this time around  — much more like the early 90s than the dot com crash era.

Considering metrics like the above, it looks to me like there’s plenty of space for growth. But even if my optimism is misplaced, here’s a secret: in the short term, it doesn’t really matter whether valuations are justified. It’s about market sentiment, which can change very quickly. If people (namely, investors) start to feel like valuations are off, it becomes a self-fulfilling prophecy, and downward we tumble.

So while caution is wise and many of these companies may indeed be overvalued, let’s not will ourself into a downturn — particularly not one based on Fidelity’s mood this week.

About the guest blogger: Arianna Simpson has spent her career to date working in tech, previously at Facebook and currently at BitGo, the industry leader in bitcoin security. Arianna is particularly interested bitcoin and various applications of the underlying protocol, and often speaks and writes on the topic.