Maybe it should have been a sign that the competition was going to be tough and first-mover advantage might not matter all that much: During the roadshow for meal-kit delivery service Blue Apron‘s IPO in June 2017, Amazon announced it was acquiring Whole Foods Market.
The Blue Apron IPO got done, but the deal priced 34 percent below the original range set by Wall Street bankers ($3.2 billion), and valued the company below its last private financing — just under $2 billion. This week, Blue Apron shares entered a realm that a former start-up unicorn to successfully go public doesn’t include in its strategic road map: penny stock territory. Blue Apron shares first dipped below $1 a share on Tuesday, and ended the week at 66 cents a share, with a market cap of $128 million.
Bad deals are nothing new on Wall Street. Go back a decade and there are a number of energy stocks — both traditional and renewable — that have worse absolute performance than Blue Apron, as well as some big biotech busts. Even in the more recent space of the Silicon Valley-funded “disruptive tech” billion-dollar darlings, Blue Apron is far from alone, and it isn’t, like some others, bankrupt. But Kathleen Smith, principal at Renaissance Capital, which manages the IPO ETF, said it is still an easy call to make:
“I think APRN wins the award for worst performer in such a short period of time.”
Financial advisor Josh Brown of Ritholtz Wealth Management, who runs the Reformed Broker blog, didn’t mince words on Twitter earlier this week, saying, “One of the worst IPOs I’ve seen in the post-crisis period. Everyone knew this was an escape plan for insiders/VC. I can’t believe The Street sold this for them.”
Goldman Sachs, Morgan Stanley, Citigroup and Barclays were lead underwriters to its IPO.
What went wrong?
A lot, and really, right from the beginning, and not just the fact that Jeff Bezos — who has perfected the strategy of losing money for as long as it takes to wipe out the competition in multiple sectors of the economy — announced his intentions to dominate the retail food market with the Whole Foods deal.
The pitch, in Smith’s words: Blue Apron had scarcity value as the first meal-kit delivery service to go public and it had a dominant 52 percent market share with a $1 billion run rate. Recent growth was 42 percent and gross margins were improving. But in addition to the Amazon wake-up call, investors were concerned about high marketing expenses, high capex, and lack of disclosure about customer churn, making it hard to understand unit economics.
“Blue Apron had some investor skepticism right out of the box, with the stock falling on the first day of trading,” said Jay Ritter, a professor of finance at the University of Florida who specializes in research on the IPO market.
And the problem only got worse: After the IPO there were issues about the move to its new fulfillment center, which would put further stress on negative cash flow, and less than one month after the IPO, co-founder and chief operating officer of the company, Matthew Wadiak, stepped down and moved in a “senior advisory role.” Five months after its IPO, co-founder and CEO Matt Salzberg left the CEO role (he remains on the company’s board). “Thereafter, disappointing results,” Smith said.
A quick look back at IPOs from 2011 to the present that include start-ups with a disruptive theme and a $1 billion or more valuation shows that Blue Apron may be in the running for the title of “worst” but there are others deserving of dubious distinction. Ritter pointed to health-care pricing transparency play Castlight Health, and Lending Club — whose founder and original CEO left under a cloud of questionable loan deals — as “big disappointments.”
Only one of those deals trades above its IPO price today: education technology company Chegg.
Snap dipped below $5 for the first time in its history this week.
Elliot Lutzker, a former SEC attorney who works with companies preparing for public offerings and on SEC compliance matters at the law firm Davidoff Hutcher & Citron, said a viable deal doesn’t mean a properly valued deal, or even close to it. That is important as the economic clock ticks closer to recession and the stock market softens — December has been the worst December for stocks since 1931 — and more richly valued start-ups aim to go public.
“When there is an unlimited amount of private money and [venture] funds can do A, B, C, D, E and F financing rounds, there is no reason to go public, and then when a lesser company than an Uber, say Blue Apron, can’t do the next round, or has to do a down round, then they are forced to go public,” Lutzker said.
The IPO, it would turn out, was a down round for Blue Apron.
“VCs who put in the money are forcing it and the banks … it’s their compensation. … It is unfortunate that Amazon acquires Whole Foods during your roadshow, but underwriters want to get paid and VCs want to cash out,” the IPO attorney said. “The fact that it had to cut its valuation by 34 percent shows it was overvalued.”
A Blue Apron spokeswoman said the company is confident in its strategy to accelerate its path to achieving profitability on an adjusted EBITDA basis in both the first quarter of 2019 and for full year 2019.
“We are laser-focused on building a strong, sustainable, profitable business to drive value for all of our stakeholders, which we believe will be reflected in the results of the decisive actions currently underway. Our course has not changed. Creating value for our stakeholders is a top priority we are bullish on our future,” the spokeswoman said, and she also pointed to a deal announced this week with WW (formerly Weight Watchers).
The company laid off 4 percent of its staff in November and after years of high marketing expenses said that it was shifting its strategic focus to the 30 percent of customers that generated the majority(80 percent) of its revenue.
Smith said there are plenty of straightforward lessons for investors from the Blue Apron stock story.
1. Avoid companies with highly negative cash flow. Blue Apron had $225 million of negative free cash flow – and cash flow was expected to be negative for the next several years due to high cost of marketing and the build out of fulfillment centers.
2. Do your own valuation and realize that private valuations may be disconnected from reality.
3. Beware of companies that do not provide investors with understandable unit economics — e.g., churn.
4. Beware of companies with rising marketing costs as a percent of revenue.
5. Make sure recent trends are heading in the right direction — e.g., active customers rising.
6. Don’t underestimate competition, both big guys (e.g. Amazon/Whole Foods) and small players e.g. Plated, Sun Basket who have lots of venture money to operate unprofitably. (Plated was recently acquired by Albertsons and Home Chef was acquired by Kroger).
7. Try to find a management team that knows how to under-promise and over-deliver.
The situation for Blue Apron remains uncertain. In the most recent quarter reported through the end of September, net revenue decreased 28 percent year-over-year to $150.6 million, driven by a decrease in customers. Revenue decreased 16 percent quarter-over-quarter. The company’s quarterly net loss increased $1.1 million from a net loss of $32.8 million in the second quarter of 2018, and its adjusted EBITDA loss increased by a little over $1 million as well, for what the company said were “seasonal cadences” in the business.
If it has never looked like a good deal from the day it set its IPO plan, with a market cap now at $128.5 million Blue Apron might finally make sense for someone: an acquirer. A 100 percent premium would put the deal in the range of $250 million.
Kroger’s deal with Home Chef was valued at $700 million — $200 million in an upfront payout and up to $500 million in subsequent years based on targets being hit. Albertsons paid a reported $200 million for Plated, with the final price able to reach twice that based on growth metrics.
“It is ripe for takeover,” Lutzker said. “There is always something of value, it is just question of how cheap you can get it, if it fits into someone’s marketing.”
For investors who got in on the IPO or the first-day of trading, any reasonable premium isn’t going to get anywhere near their money back, but Lutzker said unless significant shareholders — someone with a stature like Carl Icahn — want to litigate over the price in a deal, “most shareholders don’t hold enough value to hold up deals,” even at prices they don’t like.
In the case of Blue Apron, as has been typical of recent tech IPOs, public shareholders don’t have full voting rights. Blue Apron’s IPO included the multiple share class structure that has become common in tech IPOs, with insiders holding shares worth 10 votes to each public shareholder’s single vote. At the time of the IPO, 30 million single-vote Class A shares were being offered versus a total of 159 million Class B ten-vote shares being held by founders, company insiders, venture firms and other investors.
Smith put it bluntly: “10 to 1 voting control means that the interests of public shareholders do not matter in the decision making.”
But Ritter said even insiders might be willing to make a deal. “Founders don’t always oppose being acquired— it is one way to cash out.”
Some of these other start-ups, say a FitBit or a GoPro or a Groupon or a Zynga, might have seemed to make sense for an acquirer after being beaten-up in the public market, but years later, are still stumbling their way through life as a stand-alone stock.
Ritter pointed to a more difficult problem to solve that helps to explain why takeouts don’t materialize even at depressed values: “The more likely reason is that potential acquirers don’t have an obvious plan to turn the company into a money maker. Some of the stock declines are not due to failure of the business, but failure to live up to lofty expectations.”
That reality is important for individual investors before they are shopped the next great initial public offering: Be able to tell the difference between a true competitive advantage and an easily duplicated commodity.
“Keep going back to the secret sauce, something that can’t be duplicated,” Lutzker said. “Then it’s a lot more valuable and a good reason for going public. … It is not just a question of being first. Something that is proprietary, with a patent, that is what counts. Being first to market as a public company doesn’t.” He added, “It doesn’t help when you have negative free cash flow and you are also going against the richest person in the world with a game plan.”
