Longtime Analyst Mark Mahaney: ‘The Bar Is Higher In the Public Markets:’ Term Sheet

‘THE BAR IS HIGHER IN THE PUBLIC MARKETS’

We’re already halfway through the year, and a number of tech startups finally made their public market debut — Uber, Lyft, Zoom, Pinterest, PagerDuty, Beyond Meat, CrowdStrike, and most recently, Slack.

I caught up with Mark Mahaney, managing director at RBC Capital Markets to talk about the state of the IPO market as part of Fortune’s Brainstorm Tech member call. “This is one of the best six-month stretches we’ve seen in the public markets in quite some time,” he said. “That’s one of the reasons why the IPO market is relatively robust.”

Mahaney has covered tech stocks for more than 20 years, and I think you’ll enjoy his insights. Below is an abbreviated version of our conversation.

TERM SHEET: Many of the tech startups to go public this year have eye-watering losses. It seems that investors are willing to overlook profitability so long as there’s a promise for long-term growth. Just how important is profitability in the public markets and do you see a day when all of this outrageous spending comes crashing down?

MAHANEY: I kind of disagree with the idea that it’s outrageous spending. Now, we’ve had some really interesting examples that have skewed out of the norm — that’s Uber and Lyft. We’ve never had companies go public with that high level of losses and expected losses for the next several years.

The open question is whether the market opportunities are large enough — especially for Uber — that it justifies generating losses of this magnitude, that it warrants investments of this scope and scale. We’re actually in the camp that believes the market opportunity is large enough to warrant these kinds of investments. But the public markets aren’t as certain about that.

In the public markets as a whole, profits do matter more than in the private markets. In the public markets, you’ll see a very broad range of investors — people who are willing to invest purely for growth and others who are looking for capital safety or capital accumulation. The general rule is that the public markets do have a stronger screen for profitability or a path to profitability than you have in the private markets. The bar’s higher in the public markets.

You’ve developed some interesting methods over your career for spotting winners and losers on the stock market. One tip you offered at Fortune’s Brainstorm Tech Conference last year was that when looking to invest in a tech stock, you should “look for the lucky lexicons.” Can you elaborate?

We focus on what we call the “Four M Framework” first, which are market opportunity, the competitive moat, the quality of the management team, and the quality of the business model. We look at broad factors like that and separately we have valuation screens on companies.

When I was referring to the “lucky lexicon,” what we had in mind is that some of these consumer-facing companies can become so ingrained into culture that they can become household names. I refer to them as “lucky lexicons” — ”let me Google this,” “did you see that tweet,” and “I’ll Uber tonight.” Once you become a popular name, noun, or verb, then your need to spend money on sales and marketing to build that brand awareness diminishes. It creates a sort of leverage in the business model where sales and marketing expenses as a percentage can come down over time and that allows you to be more profitable. It’s a great place to reach.

Airbnb has reached this. I think about the analogy this way: When you go on vacation, people come back and say “I stayed at an Airbnb this weekend.” They don’t come back and say, “I had a great experience at an Expedia this weekend,” or “I stayed at a Booking.com this weekend.” There’s an advantage of being part of the lucky lexicon.

Can you share any other factors public market investors should keep in mind when assessing tech stocks?

The most important of “The Four Ms” I mentioned is the management team. We’ve seen very different business models generate roughly similar levels of market cap over time. It’s more about the quality of the management team, and that’s a very hard thing to assess. It’s something that takes years to prove out, and we look for companies that are willing to make long-term investment bets, ones that stick with strategies over pronounced periods of time, and are also willing to make major pivots as well.

Snap CEO Evan Spiegel recently said that going public was a very challenging experience for him. One specific thing he said that’s made a big difference is being more transparent with investors by providing quarterly guidance. How do you see some of these companies that are used to keeping things quiet adapt to the more transparent nature of the public markets?

The bar’s set higher in the public markets. I would imagine that if Snap had stayed private through that entire time and they had some of those same snafus, I would think some of their private investors would’ve been unhappy and even sold out of their positions. I would imagine that would’ve happened there too.

What happened in the public markets is that the mistakes — and I think they were mistakes — that the company made became very clear. You had sharply decelerating user growth rates, and the public markets punished the stock for that.

There were a lot of execution errors with that company, and I also think it spoke to the company’s inability to accurately forecast its business because maybe in some ways it didn’t know its business well enough. That was a company that went public maybe a little bit too early. They also had dramatic change in management team. It’s rare that you have that much change in management team in a year or two post-IPO. That’s not a good thing.

Speaking of Snap, it went public with a dual-class share structure in which it offered common shares to the public without any voting rights. So Evan Spiegel and his co-founder had an outsize level of control. We recently saw Lyft and other companies that went public implement a dual class structure. How should investors think about stocks with this type of governance structure in which 1 share does not equal 1 vote?

You’re right to point this out. This is a trend that’s been in place in the last five to 10 years. You’ve been increasingly seeing it in tech, and I think it’s a negative trend for public investors. The good thing about public investors is you don’t have to own low-voting right stock in Google, Facebook, or Snap. You could always pass on it.

Investors who don’t have a single voting right do have a great way of influencing management: just sell all the stock. I have generally found that companies react to dramatic deteriorations in their stock price. I think that lit a fire under parts of management at Snap in the last year and a half. If there’s dramatic underperformance, you’ve got retention issues, and it puts more pressure on management to correct problems. There’s still a way for the public markets to correct you if you need correcting. Destruction of shareholder wealth is usually the right hammer if that’s needed.

(Reminder: Fortune’s Brainstorm Tech Conference is taking place July 15-17.)

VENTURE DEALS

• Monzo, a U.K.-based challenger bank, raised £113 million (~$144 million) in Series F funding at a £2 billion (~$2.5 billion) post-money valuation. Y Combinator’s “Continuity” growth fund led the round, and was joined by investors including Latitude, General Catalyst, Stripe, Passion Capital, Thrive, Goodwater, Accel, and Orange Digital Ventures.

• MX, a data platform for banks, credit unions and fintechs, raised $100 million in funding. Battery Ventures led the round, and was joined by investors including H.I.G. Growth Partners, Point72 Ventures, Sorenson Ventures, Pelion Venture Partners, Cross Creek Capital, Industry Ventures, Digital Garage, TTV Capital, and Commerce Ventures.

• Showpad, a Belgium-based sales enablement solution, raised $70 million in Series D funding (a combination of debt and equity). Dawn Capital and Insight Partners co-led the round, and was joined by investors including Hummingbird Ventures and new investor Korelya Capital.

• Booster, a same-day fuel delivery service, raised $56 million in Series C funding. Invus Opportunities led the round, and was joined by investors including Madrona Venture Group, Vulcan Capital, Maveron, Conversion Capital, and Perot Jain LP.

• Venn, a community organization platform, raised $40 million in funding. Investors include Pitango Venture Capital, Hamilton Lane, on behalf of the New York State Common Retirement Fund, and Bridges Israel.

• Open, an India-based startup that operates a “neo-bank” to help businesses automate and run their finances, raised $30 million in Series B funding. Investors include Tiger Global, Tanglin Venture Partners Advisors, 3one4 Capital, Speedinvest, and BetterCapital AngelList Syndicate.

• Button, a New York-based mobile commerce platform, raised $30 million in Series C funding. Icon Ventures led the round, and was joined by investors including Capital One Ventures, Redpoint Ventures, Norwest Venture Partners and DCM Ventures.

• Ocrolus, an automation platform that analyzes financial documents, raised $24 million in Series B funding. Oak HC/FT led the round.

• Chief, a New York-based private network of women, raised $22 million in Series A funding. General Catalyst and Inspired Capital co-led the round.

• KoinWorks, an Indonesia-based startup that helps small and medium-sized businesses secure financial services through its online peer-to-peer platform, raised $16.5 million SGD ($12 million) in Series B funding. EV Growth and Quona Capital co-led the round, and were joined by investors including Mandiri Capital Indonesia, Convergence Ventures, Gunung Sewu, Beeblebrox and Quona Capital.

• Motorway, a London-based used car marketplace, raised £11 million ($14 million) in Series A funding. Marchmont Ventures led the round, and was joined by investors including LocalGlobe.

• Orderful, a SaaS platform for B2B trading that enables users to transact with their partners in supply chain, raised $10 million in Series A funding. Andreessen Horowitz led the round.

• Sunwave, a Delray Beach, Fla.- based software platform for substance abuse treatment centers, raised $6 million in Series A funding. Blueprint Equity led the round.

• Miss Grass, a Venice, Calif.-based cannabis brand with a content and e-commerce platform, raised $4 million in funding. Investors include ​Listen Ventures​, ​Casa Verde Capital​, ​Advancit Capital​, ​firstminute capital​, ​Third Kind Venture Capital​, and ​Muse Capital’s Assia Grazioli-Venier​ and ​Rachel Springate.

HEALTH AND LIFE SCIENCES DEALS

• Corinth MedTech, a Cupertino, Calif.-based urology healthcare company, raised $12 million in funding. ShangBay Capital LLC and Aethan Capital Inc co-led the round.

• DotLab, a San Francisco-based personalized medicine company for women’s health, raised $10 million in Series A funding. CooperSurgical led the round, and was joined by investors including Tiger Global Management and Luxor Capital Group.

• BioEclipse Therapeutics, a South San Francisco-based clinical-stage biopharmaceutical company, raised $7.7 million in Series A-1 funding. Revelis Capital Group LLC led the round.

PRIVATE EQUITY DEALS

• TPG agreed to acquire make an investment in Harlem Capital Partners, a New York-based early-stage venture firm. Financial terms weren’t disclosed.

• Aurora Capital Partners acquired Petroleum Service Corporation, a provider of product handling and site logistics services for the petrochemical, refining, midstream and marine transportation sectors. Financial terms weren’t disclosed.

• Norwest Equity Partners made a significant investment in Arteriors, a designer and supplier of lighting fixtures, furniture and accessories. Financial terms weren’t disclosed.

• Equistone Partners Europe will buy Vulcain Ingénierie, a France-based engineering consultancy group serving the energy and pharmaceuticals sectors. The sellers were NiXEN Partners, Initiative & Finance. Financial terms weren’t disclosed.

• Main Capital acquired a stake in Onventis, a Germany-based provider of a cloud platform for e-procurement. Financial terms weren’t disclosed.

• Lovell Minnick Partners invested in oneZero Financial Systems, a Cambridge, Mass.-based provider of software and technology solutions to the foreign exchange trading industry.

• ActiveViam, a New York-based in-memory data analytics software provider for enterprise financial services and retail customers, raised funding of an undisclosed amount from Guidepost Growth Equity.

• Falfurrias Capital Partners agreed to acquire the food business of The C.F. Sauer Company, a Richmond, Va.-based producer of food products. Financial terms weren’t disclosed.

OTHER DEALS

• WeWork will acquire Waltz, a New York-based mobile access control company. Financial terms weren’t disclosed.

• Republic acquired SheWorx, a New York-based platform and event series for female entrepreneurs. Financial terms weren’t disclosed.

IPOs

• Miniso, a Chinese budget retailer, is weighing an IPO in Hong Kong or the U.S., Bloomberg reports citing sources. The deal could raise about $1 billion. Read more.

• Phreesia, a New York-based software platform for healthcare providers, filed for an $125 million IPO. The firm posted revenue of $99.9 million and loss of $45.3 million in the year ending Jan. 31. 2019. LLR Equity Partners (24% pre-offering), HLM Venture Partners (17.3%), and Polaris Venture Partners (15%) back the firm. J.P. Morgan, Wells Fargo Securities, William Blair, Allen & Company and Piper Jaffray are underwriters. It plans to list on the NYSE as “PHR.” Read more.

• Afya, a Brazilian healthcare education group, filed for an $100 million in an initial public offering. The firm posted revenue of $140 million in 2018 and income of $29.8 million. Morgan Stanley, BTG Pactual and XP Investimentos are underwriters. It plans to list on the Nasdaq as “AFYA.” Read more.

• AssetMark Financial Holdings, a Concord-based wealth management platform for independent financial advisers, filed for an $100 million IPO. It posted revenue of $363.6 million in 2018 and income of $37.4 million. Huatai International backs the firm. J.P. Morgan, Goldman Sachs, Credit Suisse, and Huatai Securities are underwriters. It plans to list on the NYSE as “AMK.” Read more.

• Medallia, a San Francisco-based enterprise customer experience platform, filed for an $100 million IPO. It posted revenue of $313.6 million and loss of $82.2 million. Sequoia Capital (41% pre-offering) backs the firm. BofA Merrill Lynch, Citi, Wells Fargo Securities, and Credit Suisse are underwriters. It plans to list on the NYSE as “MDLA.” Read more.

• Fulcrum Therapeutics, a Cambridge, Mass.-based clinical-stage biotech developing therapies for rare diseases, filed for an $86 million IPO. The firm has yet to post revenue and posted losses of $39.1 million in 2018. Third Rock Ventures (43.2% pre-offering), GlaxoSmithKline (9.5%), and Foresite Capital (8%) back the firm. Morgan Stanley, BofA Merrill Lynch, and SVB Leerink are underwriters. It plans to list on the Nasdaq as “FULC.” Read more.

• Mirum Pharmaceuticals, a Foster City, Calif.-based biotech developing therapies for rare liver diseases, filed for an $86 million IPO. It has yet to post revenue and posted losses of $17.3 million between May and December 2018. New Enterprise Associates (20.8%), Frazier Life Sciences (17.3%) and Deerfield Healthcare Innovation (17.3%) Citi, Evercore ISI and Guggenheim Securities are underwriters. It plans to list on the Nasdaq as “MIRM.” Read more.

• Yandex, the Russian taxi online service, is likely to sell new shares in its planned IPO, a majority shareholder said, per Reuters. Read more.

EXITS

• WP Engine acquired Flywheel, an Omaha, Neb.-based WordPress hosting and management platform. Financial terms weren’t disclosed. Flywheel had raised approximately $14.2 million in funding from investors including Five Elms Capital, Ludlow Ventures, Hyde Park Venture Partners, Lightbank, and Linseed Capital.

FIRMS + FUNDS

• Hamilton Lane, a Bala Cynwyd, Penn.-based investment firm, raised $1.7 billion for its latest co-investment fund, Hamilton Lane Co-Investment Fund IV.

• A&M Capital Partners, a Greenwich, Conn.-based private equity firm, raised more than $1 billion for its second fund, according to an SEC filing.

• JD.com’s logistics division raised a 1.5 billion yuan ($218 million) fund to invest in companies and technologies specializing in logistics, according to Reuters. Read more.

PEOPLE

• Altus Capital Partners, Inc promoted Nick deMarco to principal and Joshua Tesoriero to vice president.

• Santé Ventures appointed Dennis McWilliams as a venture partner.

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Polina Marinova produces Term Sheet, and Lucinda Shen compiles the IPO news. Send deal announcements to Polina here and IPO news to Lucinda here.