I read an article this week about Airbnb. My experience with marketplaces makes them an area of interest for me. I enjoy reading how publicly traded marketplace companies navigate the complexities of the business model at massive scale. In the article, Brian Chesky, CEO and cofounder of Airbnb, was very candid about his company. 

Chesky said the company isn’t on a solid foundation. In fact, he claims the company never built a solid foundation. The Airbnb system was intended to serve a much smaller company, but Airbnb ended up growing “like crazy.”

Chesky outlined a few things they need to do to get their house in order. The one that really caught my attention was a focus on reducing prices. Chesky said attractive pricing was what drew people to the service. It sounds like he wants to return the company to being known for affordability.

That makes sense, in a way. Lower price points usually lead to an increase in demand. On the other hand, there could be a limit to how low some hosts can go. Especially when you consider that some of them have leverage (i.e., debt) on their properties.

Those are just two of the many things I thought about after reading this article.

Marketplaces are hard. Keeping the customers (the demand side) and the merchants (the supply side) happy is no easy task. In my experience, when changes are made that materially affect how much revenue the supply side receives, a period of uneasiness and “adjustment” usually occurs.

Airbnb is massive, so I’m curious to see how this all unfolds and what the impact will be on Airbnb’s financials and on the entrepreneurs who make a living as hosts on the platform.

I recently had the chance to have a long meeting with an emerging venture capital fund manager. He launched his fund less than two years ago. He’s been able to secure early investment from a few limited partners (LPs). Enough to assemble a team and begin investing—but nowhere near his target amount. The fundraising environment for emerging venture fund managers has been tough in 2022 and 2023. I was curious how things were going for this manager.

He shared that his journey has been full of highs and lows. Fundraising has been extremely hard. The interest-rate environment has soured many potential LPs on venture capital as an asset class, especially for new fund managers. Some potential LPs who like his thesis have shown interest, but their internal rules won’t allow them to invest because this is his firm’s first fund. (Some LPs consider investing only if it’s the second fund or later.)

The fundraise is behind target, which has created a cash flow issue. He took a pay cut to less than what recent college graduates make, which has made things less than ideal at home. And he’s made other adjustments in the firm to conserve cash.

He doesn’t think he’ll raise the amount he targeted when he launched the fund. It will likely be materially less. He’s traveling every week for the next few months to meet with LPs across the country. His focus now is to get enough capital commitments from LPs to safely execute his strategy with his current team before he legally must end his fundraising process. If he can raise the minimum needed for the fund to remain viable, he’ll have enough runway to build a track record that he hopes will help when he raises for a second fund.

On the positive side, the team he assembled is extremely talented. They’ve refined their approach and have a solid process to discover, evaluate, and win investments into promising start-ups that fit their thesis. They’ve completed investments in several companies, all of which are doing well and have ample cash. One early investment is doing exceedingly well and has raised again from a well-known VC firm. That investment is his firm’s first markup in its portfolio and validation from a later-stage investor.

This fund manager is smart and determined. I have no doubt he’ll ultimately achieve success. It may look different and happen slower than he originally envisioned. But I believe it will happen for him. 

His story is a reminder that the journey of an emerging fund manager can be the same as that of a start-up founder: one of sacrifice and extreme peaks and valleys. Market conditions are making the journey particularly tough. If current conditions persist, they could lead to fewer people launching new venture funds.

A few days ago, I shared an interview of First Round Capital Board Partner Chris Fralic regarding the firm’s thinking when it made an early-stage investment in Roblox, an online gaming and game-creation platform. Fralic mentioned that Roblox was one of the firm’s best investments ever. That caught my attention and made me wonder just how good of an investment it was. So, I did a little digging.

Roblox went public via direct listing in March 2021. Its market capitalization (i.e., valuation) was ~$35.5 billion when it began trading on the first day and ~$38 billion when trading closed for the day. According to Roblox’s S-1 filing (page 172), First Round owned 6.8% of Roblox when the company filed to go public. The S-1 filing also shows that First Round registered zero Class A common shares in the direct listing (page 172), which I assume means that it planned to sell its entire position. Assuming that First Round sold at or around the $35.5 billion market cap at which shares began trading on the first day, its position was worth approximately $2.41 billion.

The S-1 filing also shows that First Round made the Roblox investment via a single entity, “First Round Capital II, L.P.” (page 172), which likely means the firm invested into Roblox out of its Fund II. Note: When companies go public, you often see venture capital firms have spread investments across several entities, which makes it harder, if not impossible, to calculate the firm’s return. For example, the S-1 lists Altos Ventures as an investor owning 23.6%, but according to a footnote, its ownership is spread across numerous entities (page 172).

I did some digging on First Round’s Fund II. It was reportedly of 2008 vintage (i.e., that was the year it was raised) and totaled $125 million raised from limited partners (LPs).

When VC firms pitch LPs to invest in a fund, they usually communicate a 10-year life cycle to the LPs. This means that VC firm general partners plan to deploy the capital raised from LPs into start-ups, exit those investments, and return proceeds to LPs all within a 10-year period. That’s the plan, but things don’t always go as planned.

At the time of Roblox’s direct listing in March 2021, First Round’s Fund II may have been three or so years past the 10-year fund life cycle. It makes sense that the firm would liquidate the entire position when Roblox went public so it could realize and distribute the gains from the Roblox investment to LPs and start winding down the Fund II entity (assuming that no other active investments remained).

It’s hard to know the exact return on this investment, but I made some guesses at the fund level. If this direct listing resulted in about $2.41 billion being returned to the fund, that means the direct listing alone returned about 19.2x the entire $125 million fund. That’s astonishing when you consider that a stellar return for a seed fund is in the 3x–5x range. It’s even more astonishing when you consider that this estimated 19.2x return doesn’t include cash received from selling Roblox shares in the years leading up to the direct listing (which Fralic confirmed the firm also did) or returns from other companies that Fund II invested in (Uber appears to also have been a Fund II investment (page 266)).

It’s easy to see why Fralic says Roblox was one of First Round’s best investments.

A few days ago, I shared that Bessemer Venture Partners posts the deal memos of some of their most successful investments online. Along the same lines, I recently found an interview in which First Round Capital Board Partner Chris Fralic talked about the firm's thinking when it invested in Roblox. First Round Capital is a seed-stage venture capital firm and often writes the first institutional check into a company. Roblox is an online gaming and game-creation platform. Per Fralic, Roblox was one of the firm’s best-performing investments. 

A few interesting takeaways from the interview:

• In early 2009, First Round passed because the $10 million valuation was too high
• Chris watched his son and his son’s friends spend increasingly more time on Roblox throughout 2009
• Chris maintained a relationship with Roblox even though his firm had declined to invest
• Six months after declining to invest, the firm wrote a $500k check at a $14 million valuation
• In May 2011, the firm wrote a $3 million investment at a $40 million valuation
• Roblox was a company that was mostly substance, not hype, so it flew under the radar of many venture capital investors for many years
• First Round sold some of its shares along the way before Roblox went public
• First Round owned more than 5% when the company went public via direct listing in 2021

Roblox went public via direct listing in March 2021. Its market capitalization (i.e., valuation) was ~$35.5 billion when it began trading on the first day. According to Roblox’s S-1 filing (page 172), First Round owned 6.8% of Roblox when the company went public. Its position was worth ~$2.41 billion when shares began trading.

It was interesting to hear a VC firm partner recap how he decided to invest at the seed stage of what ended up becoming a very large company.

For those interested in learning more, Chris did a great job of detailing his reflections, lessons learned, and more about First Round’s partnership with Roblox in this blog post too.

A few months back, I shared that 2021 was a gargantuan year for IPOs, with 1,035 of them—the highest number I could find in the last quarter century. 

In 2022, we saw just a fraction of that number of IPOs, 181 to be exact. As of the writing of this post, we’ve had 114 IPOs in 2023, which means we’re tracking for fewer than in 2022.

A few weeks ago, I shared my thoughts on the draft S-1 filings by Instacart and Klaviyo in anticipation of going public (see here and here). This week, both companies held their IPOs (NASDAQ: CART and NYSE: KNYO). Both offerings are complete, and the companies are now trading on public stock exchanges.

I suspect that venture capital investors and founders of late-stage tech companies will closely watch how both companies perform in the public markets over the next few weeks. If their stock prices are flat to up, we could see an increase in the number of technology companies filing to go public and maybe even see more IPOs in 2023 than in 2022. If their stock prices fall materially, I wouldn’t be surprised if 2023 is another year of declining IPO activity as companies elect to wait for better conditions in early 2024.

For better or worse, these companies will likely have a material impact on upcoming IPO activity and technology investor sentiment.

One thing I’ve noticed is lots of media reports about IPOs being priced at valuations below their most recent private fundraising round. Instacart is an example. A few founders and friends trying to make sense of this asked me about it. Why would you take a company public at a valuation materially below its valuation in your last VC fundraising round?

The answer can sometimes be related to needing to raise more capital but being unable to do so privately because of cap table complexity. I recently listened to Bill Gurley, a famous VC investor, articulate why IPOs can be the easiest way to raise capital when a company has a complex capitalization table.  

For anyone interested in understanding this topic better, Bill shares his thoughts in this clip and this one.

I received an email about a small SaaS business that’s for sale. It has a few hundred thousand dollars in revenue and is profitable. I was curious how the market is valuing small companies like this, so I read through the email. Here’s what I found:

• $594k revenue (I assume trailing twelve months)
• $39k monthly recurring revenue
• Revenue has declined since purchase by new owners in 2020
• 1500+ customers
• ~$600 customer lifetime value
• 4.8% revenue churn (I’m assuming annual)
• $240k seller’s discretionary earnings (SDE)
• $750k asking price (i.e., 3.1x multiple on SDE)

If I were in the market for something like this, I’d have lots of questions for the seller, especially about the quality of the revenue and profits.

One thing that got me thinking was that this business was purchased in the last three years or so and has seen the revenue decline. I wonder about the cause—is this a case of customers seeing less value in its solution, or is it less-than-stellar management by the current owners? Not an easy question to answer until you dig into the business, but depending on the answer, the business could be a great investment opportunity or a less than ideal one.

I wonder how many small businesses have been purchased in the last three years and have been declining since then? How many have turnaround potential and will be put up for sale in the short or medium term? 

Today kicks off what I believe will be a memorable fundraising period for technology in public and private markets. With private companies going public through IPOs, start-ups raising venture capital, and venture capital funds raising from limited partners, we’re likely to see a lot of activity between now and the holidays.

I’m curious to see how receptive investors are to these varying investment opportunities and how much capital is raised.

Instacart’s largest revenue segment is its marketplace and delivery business connecting buyers and sellers and facilitating delivery of purchased items. Instacart gets a percentage of every transaction as revenue; i.e., a take rate. Let’s hypothetically say that Instacart’s take rate is 5%. For every $10 purchase on its marketplace, Instacart generates $0.50 in revenue. The take rate can be charged to the buyer, seller, or both.

The take-rate revenue model allows companies to increase their revenue as the value they provide increases. This is good, but this revenue has an overlooked downside. As a former customer of various marketplaces and software companies that used take-rate revenue models, I’ve experienced it firsthand, and I’ve watched other entrepreneurs have a similar experience.

As a customer’s merchandise volume on the marketplace or software platform grows, the take-rate dollars become larger, even if the percentage is flat. The larger the take-rate fees become, the more visible they are to the customer’s internal decision-makers. Five percent of $1,000 is $50 and may be an overlooked expense. But 5% of $1,000,000 is $50,000, which is less likely to be overlooked.

Imagine that a customer reviews its P&L, and someone asks, why are we paying XYZ Company so much money every month? That amount could materially boost our margins or support growth plans. They do some forecasting and start thinking about ways to replace the marketplace or software provider (if possible) or reduce its fees. The customer’s perspective changes. It no longer views XYZ Company as a partner that provides more value than it charges for. Instead, it sees XYZ as a company whose cost exceeds its value. The customer wants the cost it incurs to better align with or be less than the value it feels it’s receiving.

When the customer’s perspective changes, the relationship and interactions change. When the dollars at stake are high, the relationship can become adversarial. If your biggest customers are constantly fighting you, it takes a toll on your team and in extreme cases can affect the culture of your company. 

The various lawsuits over the years against Visa and Mastercard by retailers, Block, and other partners over take-rate fees are great examples of what I’m describing.

Take-rate revenue models work, but this dynamic is something founders considering them should be aware of. The good news is that take-rate revenue models can be crafted in various ways that prevent some of this tension with your largest customers.

Klaviyo is a marketing automation software company. Its SaaS platform allows businesses to market to customers via SMS text and email. It’s been a private company since it was founded in 2012 and has raised over $770 million in funding. In 2021, Klaviyo raised $320 million at a $9.5 billion valuation. Friday it filed its draft S-1 IPO filing to become a public company.

Here are a few things I noticed in the S-1:

• SaaS platform that “enables business users of any skill level to harness their data in order to send the right message at the right time across email, SMS, and push notifications, more accurately measure and predict performance, and deploy the specific actions and campaigns that drive the highest impact” (page 1)
• 1,548 employees (page 22)
• 77.5% of annual recurring revenue (ARR) derived from customers who use Shopify’s platform (page 24)
• Transitioning from majority month-to-month SMB customers to enterprise customers with longer contractual revenue agreements (page 28)
• Federal and state net operating loss carryforwards of $199.2 million and $118.6 million, respectively (page 39)
• Customer counts (page 77):
  -2014: surpassed 100 customers 
  -2016: surpassed 1,000 customers
  -2018: surpassed 10,000 customers
  -2023: surpassed 130,000 customers
• 1,458 customers each generating over $50,000 ARR (page 78)
• Dollar-based net revenue retention rate of 119% as of June 30, 2023 (page 79)
• Sold 2.9 million shares for ~$100 million to Shopify on July 28, 2022 (page 156)
• Fees paid to Shopify per revenue sharing agreements (page 157):
  -2020: $5.2 million
  -2021: $7.8 million
  -2022: $16.2 million
• 7-year collaboration agreement signed July 28, 2022, with Shopify: Klaviyo is recommended email provider for all “Shopify Plus Merchants” (page 157)
• Shopify issued warrants to purchase an additional 15.7 million shares at $0.01 per share, or $157,000 total—25% vested when collaboration agreement signed, 25% vests when IPO is completed, remainder vests quarterly (page 157)
• Equity ownership (page 164):
  -Andrew Bialecki (CEO/Co-founder/Chairman): 38.1%
  -Ed Hallen (CPO/Co-founder): 13.9%
  -Summit Partners: 22.9%
  -Shopify: 11.3%
  -Accomplice Fund: 5.7%
• Cash, cash equivalents, restricted cash as of June 30, 2023: $439 million (page F-3)
• Accumulated deficit as of June 30, 2023: $2.2 billion (page F-3)
• Revenue (page F-4):
  -2021: $290 million
  -2022: $472 million
  -2023 (through June 30): $320 million
• Net profit/loss before tax provisions (page F-4):
  -2021: $79 million loss
  -2022: $49 million loss
  -2023 (through June 30): $16 million profit
• Free cash flow (pages F-7, F-22, and 94)
  -2021: $36.7 million consumed
  -2022: $41.7 million consumed
  -2023 (through June 30): $53.4 million generated

This is a draft S-1, so some information is missing and will be added before it’s finalized.

Klaviyo is growing quickly, has become free cash flow positive, and is generating a profit. The company fortunes are heavily tied to Shopify. The concentration risk related to Shopify could affect public market investors’ appetite for Klaviyo. I’m curious to see how receptive public market investors are to this IPO and what valuation public markets settle on for Klaviyo.