Target is known for the tagline "Expect More. Pay Less." As a venture investor in bed-in-a-box start-up Casper, though, it is looking like the retail giant might have overpaid, at least a little.
Casper — known primarily for its mattress but which is currently pitching itself as a "sleep economy" company as part of its IPO roadshow — is planning an IPO next week that, even at the top end of its range, would be below its last two private venture capital fundraising valuations. At the midpoint of its $17–$19 initial public offering range, the pricing would represent a 37% decline from Casper's share price at the time Target became an investor in the start-up's Series C fundraising in 2017. Target also holds $80 million in equity, according to an analysis from Renaissance Capital, an IPO research firm and manager of the Renaissance IPO ETF.
The company is aiming to raise $182.4 million if its shares price at the top of the range, bringing Casper's valuation to $768.2 million, if underwriters exercise their options, according to Crunchbase. After the company raised its $100 million Series D in March 2019, it was valued at about $1.1 billion.
"Target is the big loser here," said Matthew Kennedy, analyst at Renaissance Capital. "But this company was overvalued as far back as its Series B," Kennedy said.
Target declined to comment. Casper, which is in a quiet period related to the IPO, could not comment.
On a relative basis, any paper losses are tiny for a company with profit measured in billions. Its VC investment of $80 million would come down to $50 million if the deal is priced at its midpoint. But as money-losing start-ups face a more skeptical public market, investors that enter the start-up investing space late do risk less control over pricing of IPOs. There have been much bigger paper losses involving large companies investing in high-growth start-ups, including SoftBank's WeWork investment, and Altria's investment in Juul, which earlier this week it wrote down by $4 billion.
Target, which was reportedly interested in an acquisition of Casper for $1 billion before it took part in the fundraising, also is a strategic investor. While outside analysts cannot calculate benefits from such an arrangement, an argument can be made that the company is justified paying more than fair value because it gains strategic benefits.
"But you never go in wanting to lose money," Kennedy said. "These investors are faring better than SoftBank did on WeWork, but that is not a high bar. If you had invested in the Nasdaq five years ago, you'd have a +90% return, so compare that to the Series B investors' 19% loss."
Investors in Casper's B, C and D fundraising rounds will be sitting on paper losses if the IPO is completed at its current range — insiders are subject to the lock-up period for private investors before they can sell. Some of those investors will still do well based on their investment in the company's earlier fundraising rounds, such as New Enterprise Associates and Lerer Hippeau.
Casper's August 2014 Series A, which raised $13 million at a share price of $2.76 cents, would result in a 553% return at the IPO range's midpoint. Its seed round, priced at 47 cents per share, offers original investors a return above 3000%.
"NEA led the Series A, so they're sitting pretty, and that more than made up for a loss they are taking on later series," Kennedy said. "Lerer is a big winner, and the founders." Though, he added, "They are all getting less than they thought."
NEA declined to comment. Lerer Hippeau did not respond to a request for comment.
Casper's Series B valued the company at $23.12 per share — and any round after that, and any investor only holding shares in those later rounds, will be sitting on a paper loss, Kennedy said.
The start-up's $170 million Series C was led by a $75 million investment from Target. Target also invested in the company's Series D. Both of those rounds valued Casper at $31.25 per share.
Only 18 of Casper's total of 52 investors took part in the seed and Series A rounds.
Gary Dushnitsky, associate professor of strategy and entrepreneurship at the London Business School, who has studied the role of corporations in venture investing, said some corporates invest in start-ups with an explicit goal of generating financial returns — with the belief that they are better at evaluating and nurturing start-ups and therefore should make superior returns. Others have a strategic focus — and a set of key performance indicators, which could lead to a different view on a financial loss based on their objectives.
"A financial gain is not necessarily the hallmark of a strategic win," Dushnitsky said. "Recall, the story of Apple, and it's investment in Forethought (the creator of Powerpoint). Apple realized a 5x return on its investment … by selling it to Microsoft."
He said it is difficult to generalize about considerations that a corporate makes when selling off their holdings post-IPO. Some may decide to hold, fearing that a sale will be viewed a signal of concern and could hurt the corporation's sales (Target sells Casper mattresses). Other relationships between corporate backers and start-ups can break down and result in a sale even at a time when major IPO gains are nearing, as in the case of Tyson Foods and Beyond Meat.
One factor that influences late-stage investors' financial situation is the granting of preferred shares that convert to common shares at the time of the IPO. The Casper IPO does indicate that holders of preferred stock will see their shares convert to the common shares in the public company. According to the Casper IPO filing, Target is among a handful of institutional holders of preferred shares with at least 5% of the company's capital.
All seed and Series A preferred shares convert on a 1-for-1 basis. Series B, C, D preferred shares do have a small antidilution provision, according to an analysis of the IPO prospectus by Renaissance Capital. B preferreds receive approximately 5% additional shares at the $18 midpoint, and C/D preferreds receive roughly 9% additional shares. That brings the Series B paper loss at the IPO midpoint of $18 to roughly 19%, while the Series C/D have a –37% adjusted loss.
Many celebrities were also among new investors in Casper's Series C round, including NBA players Andre Iguodala, Kyrie Irving and Carmelo Anthony, actors Ashton Kutcher and Kevin Spacey and musician Curtis Jackson (50 Cent), according to PitchBook. Among celebrity investors who took part in the Series B round are Leonardo DiCaprio, musician Adam Levine of Maroon 5 and music label executive Scooter Braun.
Agreeing to an IPO pricing range is ultimately up to the board, and Lerer and NEA both have board seats, which is part of the power of being an early investor — negotiating for it. Target does not have a seat on Casper's board.
But the fact is that Casper needs to go public to raise cash to compete in a market that requires heavy spending for continued growth.
"It's in everyone's best interest to try and go public now, and if they can get it done at $18 per share, it would be a fine outcome because it could get worse," Kennedy said.
As in the case of some other high-profile start-ups, the valuation issues stem from the private markets attaching technology sector valuations to consumer businesses. It has been reported recently that Casper CEO Philip Krim was "obsessed" with a $1 billion valuation.
"This is the reality for direct-to-consumer companies," Kennedy said. "People thought WeWork was a tech company, too."
Recent IPOs of high-profile direct-to-consumer companies have had mixed results. Peloton Interactive's IPO was priced well above its last private round of funding, and its stock has rebounded from a post-deal selloff to a price now above its $29 IPO level. SmileDirectClub shares remains well below their IPO pricing.
How well the Casper investors do will ultimately depend on the performance of the stock once it is public. When the lock-up period to which insiders are subject ends, they will be able to sell their stock at the market price and ultimately make a profit if Casper's stock surges.
Reena Aggarwal, a Georgetown University business professor and IPO expert said many of these investors are not flippers and do look at holdings on a longer-term basis. She said there is evidence that shares come under pressure closer to lock-up periods ending, as there are more sellers than buyers, but the quarterly earnings report as a public company is more likely to determine the price at which insiders can sell.
"They would have been happier if an IPO prices higher than what they paid for it, but now it is based on future performance. And now this new capital allows [Casper] to do certain things they could not do previously."
Aggarwal said that an IPO market in which companies are going public at lower valuations than their last private valuations is a new phenomenon and therefore, it is hard to know how the company's will trade once public based on historical trading data — whether the lower valuations could leave more room for quick stock pops, or if public market confidence could be dented right off the bat and insiders find it an uphill battle to sell shares at a profit.
"You just didn't see down rounds as IPOs," she said, adding that part of the reason is so many more investors from outside the VC and private equity world chasing deals, including mutual fund companies and, as in the Casper case, celebrities. "The markets have done very well and people's net worth is looking good and they are willing to take risk."
Even though Casper is doing a heavy sell on the "sleep economy" concept, Aggarwal said it is still different — in a good way — from companies like Uber, "who were going to transform the world."
"Casper is a very particular kind of product, not trying to transform something huge," she said. "We can see the product easily. However, they will need to show profitability."
Cameron Stanfill, venture analyst at PitchBook, said when a company IPO's at a lower valuation than its last private round, there's generally negative sentiment and skepticism cast at the VC industry for being overly optimistic about the value of companies. "This isn't aided by the recent trend of valuing a tech-enabled traditional business (retailing [Casper], real estate [WeWork], etc.) in the same way investors value a true software/technology company, which has led to mismatches in private valuations and eventual public valuations."
Of the 80 companies that went public last year, 28 of them were worth $1 billion or more at the time of their IPO. The companies that went public last year that are trading above their IPO price raised far less money, on average, than those that are trading lower. Companies trading below their IPO price raised an average of $774 million in venture capital funding, according to PitchBook. Those trading above their IPO price raised less than a third as much, $209 million. Casper has raised $355 million in venture capital, according to PitchBook (including $15 million in debt).
Stanfill said it's important to not focus on these high-profile deals to the exclusion of broad industry trends, which still support a healthy IPO market. "These cases are typically much more idiosyncratic, rather than a widespread issue. Given the current volume of very highly valued VC-backed companies, we may experience a few more examples of valuation cuts at the time of exit; however, these will be confined to companies that have issues with the business model rather than a broad systematic error in VC valuations."
Several factors suggest that Casper can complete its IPO.
First and foremost, it needs the money. Casper ended the third quarter with $55 million in cash, and only $6 million of working capital. It burned through more than $100 million over the past year, according to an analysis from Renaissance.
"They need to raise money to fund losses and expansion plans," Kennedy said.
Second, it can point to recent growth: Casper growth re-accelerated in the third quarter to 24% from 17% in the second quarter, and gross margin surpassed 50% for the first time.
Investors have been seeking safety this week, with the Dow Jones Industrial Average falling on uncertainty related to the coronavirus, but the public markets are strong, both the Nasdaq Composite that boomed in 2019 (up 35%) and the Renaissance IPO Index, which was also up 35% last year. A key competitor that already is public, Purple Innovation, has been up as much as 30% over the past month on stronger recent results — it saw a 65% jump in sales in its most recent reported quarter, back in November. While Kennedy said a higher stock price and sales multiple for Purple means a higher IPO valuation for Casper, he still thinks Casper should be valued at a discount to Purple Innovation. Purple has a diluted enterprise value of about $661 million, which is 1.7x its trailing sales. Casper's diluted enterprise value is about $585 million, which is 1.4x its trailing sales.
Casper's total revenue for the 12 months ended December 2019 was $416 million.
"I think it can get done, and it is great that there is a publicly traded peer out their called Purple, if priced at a decent discount. Investors are pushing for on price. ... The high end of the deal is unlikely," Kennedy said.