Snap Inc. tried to turn Big Investors into zombies. It didn’t work.
Snap Inc., the parent of Snapchat, was dealt another blow today. FTSE Russell, which owns numerous indices for stock markets around the world, including the US Russell 3000, 2000, and 1000 indices, said today that it would exclude Snap from its indices because of Snap’s share structure that denies public investors the right to vote.
Though Reuters reported the story after the market had already closed, the shares of Snap fell 3.5% today to $13.40, a new all-time low.
Shares are now 21% below the IPO price of $17. Back then, on March 2, Snap was considered “too big to fail.” It would have such a massive market capitalization that it would be included in all major indices, including the S&P 500 and the MSCI USA Index. Fund managers would be forced to buy Snap shares to keep their funds in line with the indices. Given the relatively small number of shares traded, this buying pressure would push up the price even further. It was simply a matter of creating a lot of artificial demand.
That was the hype – and hubris. The IPO raised $3.91 billion, of which $1 billion went straight to founders and early investors. On day two of trading, shares spiked to $29.30, which gave the company a market capitalization of $30 billion. Whoever sold anywhere near this price was king. Whoever bought is still ruing the day.
But on the third day of trading, news broke that a group representing large institutional investors had asked stock index providers S&P Dow Jones Indices and MSCI Inc. to exclude Snap from their indices due to the non-voting shares it sold during the IPO. Despite all the hype, Snap was never eligible for the S&P 500; it would have had to have several profitable quarters in a row, which is a pipe dream. But the hype didn’t specify that. And MSCI has since expressed its reluctance about such an inclusion.
Other companies, including Facebook and Alphabet, have also issued non-voting shares, but along with voting shares, and shareholders can still vote in watered-down form. Snap was a pioneer: it sold only non-voting shares in the IPO, the infamous class A shares. Public shareholders have no say in the company’s strategy, the pay of its executives, the board of directors, and other matters the owners of a company would want to influence.
All the power rests with the founders who have class C shares and some early investors with class B shares. They’d turned public shareholders into official zombies. And it went downhill from then on.
On July 9, Snap shares plunged another 9% to $15.47 after Morgan Stanley downgraded it to a lowly “equal weight” due to weakness in its advertising business and ferocious competition from Facebook. This wasn’t any downgrade. It was a downgrade by one of the lead underwriters of Snap’s IPO.
The company was valued at $24 billion after the IPO. It soared to $30 billion on the second day of trading. And by today it had plunged to $15.8 billion. In less than five months, 47% of its market cap, or $14.2 billion, has evaporated, and it’s still ludicrously overpriced.
FTSE Russell explained that it would require constituents of its indices to have over 5% of the voting rights in the hands of “unrestricted shareholders.” Reuters:
FTSE Russell Chief Executive Mark Makepeace told Reuters that the new rule would keep Snap out of its indexes. He said Russell plans to seek further feedback from clients.
If Snap shares aren’t in the indices, funds that track indices will not buy the shares. Since much of the stock ownership these days is via index mutual funds and ETFs, this eliminates a lot of artificial demand.
There are numerous operational and financial reasons to stay away from Snap at its current market valuation – in part because, according to Snap’s S-1 filing, it is likely to lose money until the end of its days. But these are fundamental reasons that no longer matter in these crazy days of ours. So it’s good to know that institutional investors don’t want to become public zombies with Snap’s non-voting shares.
Anne Simpson, an investment director at the California Public Employees’ Retirement System (CalPERS), said it best in March: Publicly traded shares without any voting rights in a company totally controlled by just two guys should be labeled “junk equity,” she told an SEC Investor Advisory Committee on this topic. “You’re constraining the capital markets in a way you’ll come back to regret,” she said. “Innovation, we’re interested in that; but this is an immature attempt to avoid accountability.”
“If Snap gets away with this, issuing non-voting shares will become pandemic, and shareholders will become helpless dupes,” I wrote at the time. Perhaps Snap will not get away with it.
Next week will kick off a new problemita. The 150-day “lockup” period ends on Saturday. In August, frustrated employees and investors holding 308 million class A shares can ask for the shares to be registered, which might take a couple of days, and then they can sell the shares. More shares could be registered later. In total 957 million shares could be sold after the expiration of various lockup periods. By comparison, Snap sold only 200 million shares during the IPO.
This could be another big drag for current shareholders to look forward to. Thankfully, for them, Snap is one of the most shorted stocks out there, and shorts buy shares during a sell-off to take profits, thus providing some support.
There is nothing wrong with a young company like Snap struggling to find its niche, struggling to grow users and revenues, struggling with giant competitors like Facebook and Apple out to crush it. It’s always tough to start something new, and the folks at Snap have done some amazing things, albeit by burning huge amounts of investor capital at a breath-taking rate.
What’s wrong is the hype emanating from Wall-Street and from the startup-culture that creates deca-billion-dollar valuations out of nothing via artificial demand and pump-and-dump operations for small companies that may never make any profits, in order to lure other people’s money into it so that both groups can exact their pound of flesh and abscond with it. The amounts of other people’s wealth thus being transferred into their pockets are not trivial.
Investors who bought the hype are left holding the bag. Read… Another Former $2-Billion Startup Gets Rolled Up