Why the IPO market for consumer startups is stronger than ever, and will it continue?
“You go celebrate one day, and that’s it.”
Eric Yuan, founder and CEO of Zoom talking about the Zoom IPO
On May 10th, ride hailing juggernaut Uber Technologies went public raising $8.1 billion at an initial valuation just over $75 billion. The IPO ranked as the largest for any US-based company in the past 7 years, and the 9th largest of all time. Despite a rocky first day of trading (with the stock closing down 7.6%), it was still a monumental occasion not just for the employees and investors of Uber, but for any entrepreneur or investor like myself searching for consumer startup success. Because before Uber’s record IPO, consumer pundits all had been in a strange position this year, and that was the position of looking up at the heels of towering enterprise startup success.
Ever since I was first introduced to the world of Silicon Valley startups and venture capital investing in 2010, I’ve been continuously reminded of a simple truth: “returns are a power-law distribution” with the majority of returns concentrated in a small percentage of companies. And at the head of that concentration, where you’ll find the standouts amongst even the winners, are consumer startups. Call this the consumer outlier investing theory. Obviously there are also amazing enterprise companies that turn into incredible investments (think Dropbox, Workday, Duo, Github, and soon to be Slack). But consumers are by definition the superset of all markets, so the biggest startup success stories happen when consumer startups dominate a category of consumption and spending. Think Facebook in social networking or Netflix in streaming video consumption or Amazon in e-commerce spending. When you win in consumer, you win big, so says the consumer outlier investing theory.
But this year, the most valuable tech startup to IPO had not been a consumer company, despite bonafide consumer darlings and household names Lyft and Pinterest both going public in multibillion dollar IPOs in 2019. Rather, enterprise startup Zoom Video Communications had held that distinction after the stock surged 92% by its third trading day to top $17 billion in market cap. Video conferencing worth more than ride sharing or social media. Enterprise greater than consumer. That is, of course, until Uber went public and restored order to the consumer outlier investing theory that winning consumer startups end up being the biggest successes that drive the largest financial returns for investors.
But is that consumer outlier investing theory really true or purely perception? Can we actually verify consumer outliers with empirical data?
Venture backed consumer startup IPOs vs enterprise startup IPOs
“I swing big, with everything I’ve got. I hit big or I miss big.”
Babe Ruth, Hall of Fame baseball player
Another way to describe the consumer outlier investing theory is to describe the difference between enterprise and consumer investing in a baseball metaphor: enterprise investing is a batting average game, and consumer investing is a slugging percentage game. In the enterprise space, your customer group is generally well defined. You can therefore forecast market size (ex. enterprise cloud storage is a $35 billion dollar market) and product market fit (ex. knowledge workers frequently video conference with colleagues) accurately by researching a small sample of these potential customers, which improves the enterprise startup’s likelihood of success. But the consistency of these customers also limits the eventual upside of the startup because a specific customer set is by definition a limited customer set. So enterprise startups get on base more often, but these hits also often are singles, hence the batting average description.
Compare that with the consumer space where the customer group is broad and generally unbounded. It’s therefore hard to predict market size (ex. Uber is only a taxicab company right?) and product market fit (ex. who would ever create lip sync videos, or ride an electric scooter?). To succeed as a consumer startup can feel impossibly hard because it not only requires a leap of faith, but often a blind leap of faith — you have to build it first before you know if they’ll come, how many are there, and who they even are. But if you can build a successful consumer product, the addressable market is limitless (ex. turns out everyone likes to share photos with their friends). So consumer startups get on base less often, but these hits often result in extra bases or even home runs, hence the slugging percentage description.
That’s how the consumer outlier investing theory goes, but what does the data say? Let’s look at the history of startup IPOs (one clear measure of startup investing success) over the past 20 years courtesy of our friends at Pitchbook. Below, I’ve pulled and analyzed a variety of stats on US-based companies that have gone public since 2000 that were backed by venture capital firms.
First off, I’ve plotted by year the number of venture backed consumer and enterprise IPOs that raised at least $50 million dollars in their public offering. In all but 3 years (2002, 2003, and 2009), more enterprise startups have IPO’ed than consumer startups. Over the past 20 years, there have been 2.3 times as many enterprise startups getting on the proverbial public market base compared to consumer startups.
Now if you split the time span right down the middle into two separate decades (one from 2000–2009, and another from 2010–2019), an interesting trend emerges. In the first decade from 2000–2009, about 15 enterprise companies went public each year versus about 5 consumer companies, for a 3-to-1 ratio. But in the second decade from 2010–2019, about 17 enterprise companies went public each year versus about 8.5 consumer companies for a 2-to-1 ratio. Compared to venture backed enterprise startups, about 50% more venture backed consumer companies are now getting on base in the public markets this decade versus the previous one.
Next, let’s look at how those consumer and enterprise startups were valued at the IPO. When you take out the years when there were no venture backed consumer startup IPOs, there are only 3 years where the average enterprise startup that went public was more valuable than the average consumer startup that went public: 2003, 2006, and 2018. Over the past 20 years, the average consumer startup was worth $3 billion at IPO, which is 130% more than the average enterprise startup that’s worth $1.3 billion at IPO. To continue the baseball analogy, while the enterprise startup IPO was a very impressive base hit, the consumer startup IPO was an even more impressive extra base hit.
Again, we see another interesting trend emerge with regards to company valuations when you compare decade over decade. In the first decade from 2000–2009, the average consumer startup was worth 1.5 times more at IPO than the average enterprise startup ($1.3 billion for consumer versus $880 million for enterprise). However in the second decade from 2010–2019, the average consumer startup was worth 2.7 times more than the average enterprise startup ($4.7 billion for consumer versus $1.7 billion for enterprise). This decade, venture backed consumer startups have increased their valuation lead over venture backed enterprise startups by 80% — that extra base hit is turning into a home run.
So not only are more consumer companies going public now relative to enterprise companies, they are IPO’ing at even higher valuations than before. Venture backed consumer startups are somehow both batting and slugging better than ever.
“Lagging indicators confirm long-term trends, but they do not predict them.”
In the face of all this incredibly positive data about consumer startup IPOs, I’ve actually written at length about a clear slowdown in consumer startup success, driven in large part to distribution challenges for startups on mobile, the dominant computing platform today.
In a previous blog post titled Consumer startups are dead. Long live consumer startups., I pulled Crunchbase data to chart all consumer unicorns (consumer startups that have achieved a lofty billion dollar valuation) since 2005, plotting them according to their date of founding. What emerged from that analysis was a clear bell curve that marked the golden age of consumer startup formation from 2009 to 2012. During that period, a record number of transformative consumer companies were started before it got a whole lot harder for consumer startups to breakout beginning in 2013. And a big reason why breaking out became so difficult for consumer startups is that users stopped installing new mobile apps.
In another previous blog post titled A stats based look at the iTunes App Charts, I pulled App Annie data to compute the average number of days a Top 30 weekly iOS app had been available for download in the App Store — in other words, this is the official age of the app. In 2014, the average Top 30 app was less than 2 years ago but today, the average Top 30 app is more than 5 years old. Each week, only 0.15 non-gaming apps in the Top 30 charts are less than 2 years old, compared to 4.2 such apps back in 2014. In other words, it’s roughly 28 times harder for a new app to crack the top echelon of the App Store charts now than it was 5 years ago.
Yet even as consumer startups are struggling to breakout, at the same time consumer startups are seeing greater success on the public markets as they are IPO’ing in both higher frequencies and higher valuations. How do these differing points reconcile? How can consumer IPOs be on the rise in both frequency and size, while consumer startups are facing more adversity than ever? Because IPOs are a lagging indicator, and what we’re seeing on the public markets is the golden echo of that golden age of consumer startup formation.
Consumer startup IPO successes Uber, Lyft, Pinterest, Beyond Meat, Snap, Stitchfix, Zulily, and more were all founded during that magical period from 2009 to 2012, as were hit consumer companies that were acquired before they went public like WhatsApp, Instagram, Nest, Supercell, Chewy, and Ring. The fruits of that consumer startup formation golden age are coming to bear as those once small venture backed companies have grown up into publicly traded industry titans creating the golden echo of consumer startup IPOs.
So both can be true: the consumer startup IPO market can be as high flying as ever, even as new consumer startups face increasing challenges and difficulties getting off the ground.
The golden echo
“What is history? An echo of the past in the future.”
Victor Hugo, poet and novelist
Now what comes next? Is this golden echo of consumer startup IPOs (made possible by the golden age of consumer startup formation) a fleeting moment in time? Will the frequency and valuation of consumer startups going public eventually take a step back and return to their normal levels of last decade? Maybe, but maybe not.
If the lagging indicator of consumer startup success is IPOs, the leading indicator is breakout consumer startup formation. To have a golden echo, you need a golden age.
I created the original chart of consumer unicorns plotted by founding year back in July of 2018. Below, I’ve queried Crunchbase again to update it with info from the past 10 months to see if the trends have changed. And indeed they have.
In the chart above, the dotted redline below is the original graph using 2018 data, and the solid blue line is the new graph using 2019 data. The chart has always been incomplete in recent years because companies take time to develop. For example, a great consumer startup founded in 2018 will take several years to grow in value so obviously there would not be consumer unicorns in 2018 simply because of the time horizon we’re looking at. In other words, the 2018 vintage of consumer unicorns is simply too immature to draw conclusions from.
However as time passes and we have additional data to examine, the vintages mature and the picture gets clearer. Mature vintages have only made the golden age of consumer startup formation between 2009 to 2012 more obvious when plotted — the bell curve is even steeper than before. But there’s now a rebound in the number of consumer unicorns starting to emerge in 2015 with startups founded that year like Allbirds, Lemonade, and Letgo all breaking out. The vintages from 2016 to now are still too immature, so we don’t know if 2015 is just a blip or the beginning of something more meaningful. But we can all agree that the updated blue line sure looks better than the old red line, and the new data now gives us some hope that maybe another golden age of consumer startup formation can happen again.
Time will tell. And until then, let those consumer startup IPOs keep echoing.