Reddit needs to be OK being Reddit

Reddit is losing money and burning cash annually. Photo: Reuters
Reddit is losing money and burning cash annually. Photo: Reuters

Summary

The niche social network can be valuable to advertisers, but spending needs to come down.

Reddit has curbed its own enthusiasm. It’s a start.

The 18-year-old social network that is finally preparing to go public plans to sell 22 million shares at a price range of $31 to $34, according to updated initial public offering papers filed on Monday. That reflects a total proposed market value of up to $6.4 billion—about 36% below the $10 billion valuation Reddit landed from its most recent private funding round in August 2021. Reddit reportedly plans to commence its IPO roadshow later this week ahead of a listing on the New York Stock Exchange next week.

The timing is good, given the dearth of major IPOs and a strong market for tech stocks. The Nasdaq Internet Index is up nearly 13% over the past three months, outperforming the Dow and S&P 500. And much of that gain has been driven by social-media titan and Facebook and Instagram parent company Meta Platforms, which saw its ad revenue sharply recover in 2023 while it was also enacting major cost reductions. Meta’s share price has jumped 22% since its most recent earnings report six weeks ago and nearly tripled over the past 12 months.

But comparisons to a social platform that has 40% of the earth’s population checking in daily has drawbacks for Reddit, which has about 2% of Meta’s daily user base and is still losing money and burning cash annually. And recent growth challenges faced by Snap, Pinterest and Nextdoor have made social media advertising look like a winner-take-all market.

Advertising analyst Brian Wieser disputes that idea, noting that the industry has long been able to support smaller, focused players even when they seemingly compete against entrenched giants. “If you work from the premise that you are a niche player and do what you do very well, you can succeed," he said.

That is a reality few others seem to accept. The annual operating expenses of Snapchat-parent Snap still suck up 84% of the company’s revenue seven years after it went public. Twitter’s operating expenses were 66% of revenue for the 12-month period before Elon Musk took the company private in late 2022 and changed it into X. Reddit is spending a greater portion of its annual revenue—55%—on research and development alone than Snap and Twitter did in the 12-month period before their respective listings.

Hence, other social-network companies have tended to measure poorly against Facebook’s parent, which has been wildly profitable since its listing and has remained so even when it was overhiring and blowing billions on the “metaverse." Reddit has some advantages in its cost structure, including higher gross margins due to relatively lower hosting costs that stem from the fact that much of the content its users share is text-based as opposed to pictures and video. It also has a small-but-burgeoning business licensing its data to artificial intelligence firms using it to train their large language models. Analyst Dan Salmon of New Street Research estimates this high-margin stream could account for 32% of Reddit’s total revenue by 2027 in his “base case" scenario.

Many pieces still have to fall into place for that to happen. And Reddit in the near term has to contend with a temperamental market that has been rather harsh to tech companies whose numbers are less than pristine. Snap and Pinterest shares have sunk 32% and 16% respectively since their most recent quarterly reports were deemed disappointing by investors. Among recent IPOs, Instacart shares have jumped since the company’s latest report, but remain down 18% from their opening price on the day of its listing nearly six months ago, as analysts have worried about growing competition and the sustainability of its advertising business.

A downsized valuation from its last private marker at least gives Reddit a better starting point. And at the high end of its proposed IPO price range, the stock would trade about 6.7 times trailing sales—about half the multiple represented by Pinterest’s listing price in 2019. Reddit has a way to go to show it can build a solidly profitable business out of its social media niche. A realistic valuation out of the gate might help the company garner some needed upvotes.

Write to Dan Gallagher at dan.gallagher@wsj.com

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