Photo: Getty Images
Photo: Getty Images

The Snapchat effect

The SEC's scrutiny of start-up valuations and mutual fund markdowns are terribly timed in an already-stressed funding market

The US Securities and Exchange Commission (SEC), The Wall Street Journal reported this week, is taking a closer look at how mutual funds value their shares in private technology companies. This follows earlier reports of mutual fund company Fidelity Investments marking down the value of its shares in messaging app Snapchat by 25%. It lowered the value of each share from $30.72 in June to $22.91 at the end of September.

Venice, California-based Snapchat ranks among the world’s 143-odd unicorns, the term used by venture capitalists for start-ups valued at over a $1 billion. The company is valued at $16 billion, according to data compiled by analytics firm CB Insights.

Subsequent reports revealed Snapchat isn’t the only technology start-up in which Fidelity has marked down the value of its shares. It has also lowered the value of its shares in file-sharing service provider Dropbox by 19.5% between May and September, among several other companies, Fortune reported earlier this month. Like Snapchat, San Francisco-based Dropbox is a unicorn, valued at $10 billion. Fortune also reported that apart from Fidelity, mutual funds managed by T Rowe Price and Hartford had marked down the value of their shares in unicorns such as Pinterest, Lookout and Evernote, among several other technology start-ups.

The markdowns don’t necessarily indicate any of the unicorns are in serious trouble with their businesses. The SEC’s scrutiny, which the Journal reports has been ongoing for several months, could have been the trigger for the markdowns. However, that the SEC is taking a closer look at how some of these ballooning valuations have been arrived at could be cause for concern. The scrutiny may prompt such investors to slow down on their investments in technology start-ups, at least in the short term.

That isn’t good news for India’s technology start-ups, especially the eight in the global unicorn club. Alongside a host of non-traditional investors such as hedge funds and strategic investors, global mutual funds have been an important source of late-stage capital for India’s unicorns. For instance, T Rowe Price has been a frequent investor in Bengaluru e-commerce company Flipkart. The company raised $700 million in its last funding round, which closed in July at a valuation of over $15 billion. This week, taxi-hailing service provider Ola closed a $500 million round from a consortium of investors that includes Baillie Gifford, the Edinburgh-based mutual fund company.

While mutual funds account for a small portion of the funds that have been raised by such companies, relative to hedge funds for instance, their participation in large funding rounds is critical nonetheless, especially in recent times, when hedge fund money is no longer as abundantly available as earlier.

Global hedge funds such as Tiger Global Management, Steadview Capital, Falcon Edge and Hillhouse Capital Management have been involved in start-up deals worth over $2 billion in India, according to data compiled by Mint. This year, most of the deals involving hedge funds have closed in the first six months of the year. The latter half of the year has been practically barren in terms of hedge fund investment activity. This coincides with the volatility in the public markets that started sometime in July.

By most accounts, nearly all of India’s unicorns have enough capital in reserve for at least the next 8-10 quarters. However, there are several mid-stage companies, some of them unicorn contenders, that will need large capital infusions, $100 million or more, over the coming quarters. For them, the SEC’s scrutiny of valuations and the mutual fund markdowns are terribly timed in an already-stressed funding market.

Snigdha Sengupta is the founder of StartupCentral, a digital news and analytics platform focused on venture capital. She also periodically contributes stories on venture capital and private equity to Mint.