As I’m sure you’ve heard, Alibaba officially filed to go public yesterday. I believe this may be the most anticipated tech IPO of all time… some may argue Facebook was a bigger deal, but Alibaba’s offering has been “in process” for a long time and may very well be the largest IPO ever both in terms of size of offering and initial market cap of the company.
My S-1 deconstructed posts over the years (Facebook, Groupon, Kayak, et al) have usually been a single long read. Alibaba simply too big of a company and there’s way to much in this S-1 to do it in a single shot. But there’s a ton of interesting bits on everything from growth rates to corporate governance, so I will still do a deep analysis though will serialize this into a couple posts. I’ll first start with a brief background on the genesis of Alibaba and a top level sizing of the company and its underlying businesses.
Alibaba’s Genesis Alibaba was founded in 1999 by Jack Ma and 17 other colleagues, and like most startups they began as a small group working out of Ma’s apartment in Hangzhou. The initial business, Alibaba.com, was a B2B marketplace to enable global buyers of manufactured goods to connect with Chinese wholesalers and suppliers of such goods. At the time B2B marketplaces were huge in the US… during the late ’90s bubble companies like VerticalNet and others were valued in the tens of billions.
By the late ’90s the economic reforms of Deng Xiaoping had helped propel China into an upward growth trajectory but this was still two years before the term “BRIC” was created. For perspective, China’s entire economy has grown more than 600% since Alibaba was founded. Even more staggering… when Alibaba started there were 9 million Chinese people on the internet. By the end of 2013 there were 618 million, or growth of nearly 7,000%. Clearly betting that the internet in China would be “big” someday has paid off for Alibaba.
Just How Big Is Alibaba? You may know that Alibaba is a huge company and may also know that it has several underlying businesses. Here’s a quick breakdown for you.
- Alibaba/1688.com – this is the B2B marketplace for connecting wholesale buyers worldwide with Chinese manufacturers and distributors for a range of goods. While B2B was the origin of the company, the Alibaba/1688 marketplace has evolved more towards a complementary business to the rest of Alibaba in that much of the use of the B2B marketplace is by sellers on Alibaba’s retail marketplaces (Taobao, Tmall, Juhuasuan) to source their goods. Today the B2B (aka wholesale) portion of the business only accounts for about 11% of Alibaba Group’s overall revenue.
- Taobao – this is a “P2P” or “C2C” marketplace for relatively small sellers to connect with retail buyers for goods. It’s not a perfect analogy but broadly speaking it’s similar to eBay, though the vast majority of Taobao transactions are fixed price rather than auction format.
- Tmall – this is the B2C marketplace, where large companies can sell directly to retail buyers. Akin to Amazon.com, Tmall is primarily used by large brands like Nike, Gap, and others to sell online in China.
- Juhuasuan – this is a group buying or flash sale marketplace. People compare it to Groupon frequently which helped pioneer “flash sales” in the US, though Groupon historically has sold a lot of service based offers (restaurants, spas, etc) whereas Juhuasuan is primarily products like a Zulily, Gilt, etc.
- Alipay – this is the payments arm of Alibaba, usually compared to PayPal in the US. A key distinction is that the primary benefit of PayPal originally was to enable small merchants to accept electronic payments seamlessly, at a time when most had to rely on checks and money orders in the mail. Alipay’s primary benefit is as an escrow service ensuring the seller gets paid and the buyer gets their purchase, which gives comfort to both parties in a Chinese society where the rule of law and trust between individuals can be a greater concern than in the US.
- China Smart Logistics – this is a JV that Alibaba Group owns 48% of, created in partnership with the 5 largest delivery companies in China (e.g. the UPS, FedEx, DHL equivalents). This lets sellers on Alibaba’s marketplaces connect effectively with packing and delivery providers, and for consumers to seamlessly track and manage delivery of their purchases.
Alibaba Group doesn’t break out revenue by each marketplace, though they do separate the revenue from China vs rest of world and between wholesale and retail commerce. They also break out the revenue of ancillary businesses like the web services unit.
So just how big is Alibaba Group? Well I’ve included below one of many infographics in the S-1 that gives you some of the hard stats. No matter how you slice it, the numbers are fairly staggering.
- A Quarter Trillion in GMV - total gross merchandise volume (GMV) for Alibaba Group was $248B USD in 2013. Let me repeat that… a quarter trillion USD. eBay’s GMV for 2013 was $76 billion and Amazon’s was about $100B. So that makes Alibaba Group about 40% larger than Amazon + eBay combined in terms of total goods sold.
- 11 Billion Orders - Alibaba processed 11.3 billion orders in 2013 across 231 million active buyers, so roughly 50 orders per active user.
- Half A Trillion in Payments – total payment volume (TPV) through Alipay was $518B USD in 2013. For reference, PayPal was $180B USD in TPV in 2013, which makes Alipay nearly 3x bigger than PayPal.
With all those mind blowing stats though, Alibaba did roughly $8.5B USD in revenue for 2013. In that regard it’s only about 1/2 the size of eBay/PayPal and means that the revenue per transaction is far lower. In my next post I’ll do a deeper dive into exactly how each of Alibaba’s businesses monetizes and try to compare those to the analogous US-based companies.
I watched the first episode of HBO’s Silicon Valley last night. Yes I know I’m several weeks behind at this point, but I wasn’t sure if I was going to get into this series (still not sure actually). FWIW I’m a big fan of Mike Judge’s films like Office Space and Idiocracy, and also enjoyed his prior TV shows. But as I said to my wife, I suppose it’s a little like a doctor watching ER back in the day or a cop watching contemporary crime dramas.
In that very first episode we have a brief glimpse at the aftermath of a successful exit worth “hundreds of millions” and then also the main character’s dilemma of whether to accept a $10 million offer for a fledgling side project. And it occurred to me that tech entrepreneurs’ success is a little like alchemy to the average person.
Picture this… some people that seem at the fringes of the mainstream (developers & entrepreneurial types) do some stuff that you don’t really understand (innovation & company building) and then poof the entrepreneur possesses vast riches. Today’s journey from startup to $19B acquisition by Facebook must seem comparable to turning base metals into a pile of gold for the average 13th century man on the street. Regardless of how important one thinks luck may be in entrepreneurial success, and it undoubtedly plays a material part, most people know that startup success is not exactly the same as hitting the lottery. But the success of software entrepreneurs it is less understood and probably feels less intentional to the average person than most other forms of accomplishment. And perhaps those of us in the entrepreneurial ecosystem could do more to foster a broader understanding.
Most people can grasp other forms of success in some way. Few will ever achieve the investment success of Warren Buffet, but wide swaths of society have at least tried their hand at buying a couple shares in a brokerage account or allocating their 401k in some way. Lots of people played little league or tried out for sports as a kid, so while few of us will ever be A-Rod, Tiger, or Tom Brady we have some sense of what it must take to climb to the heights of professional sports.
But relatively few people have written a software application. Few have quit secure jobs and gone without paychecks to pursue an entrepreneurial dream. Few have mapped out a market opportunity in detail, and then fought and scrapped to bring an innovative product to that market. And even fewer have done all three and been successful in the process.
The easy thing to do would be to simply say “most folks don’t understand tech entrepreneurship”. But those of us who live and work in “Silicon Valley” could probably do more to help the broader world understand what entrepreneurs actually do and also don’t do. Tech entrepreneurship and building innovative, successful businesses should rightly be celebrated by our own ecosystem and society more broadly. But we can also hopefully admit that not every startup is truly changing the world. Perhaps we’re a little commercially minded in addition to disrupting a market and improving customers’ lives. Hard work is always involved but occasionally we simply get lucky. And all of this is ok to admit.
Hopefully those of us in the startup ecosystem can speak truth to all these, in addition to highlighting the determinism, brilliance, and effort that goes into entrepreneurial success. Perhaps then it won’t feel like alchemy to the rest of world.
Like most folks in the tech ecosystem, I’m still slightly slack-jawed this morning by the announcement late yesterday that Facebook is buying WhatsApp for approximately $19 billion in total consideration. There are so many remarkable aspects of this event… from the sheer size, to founder Jan Koum’s personal story, to the way it caught most people by surprise, to Sequoia’s stunning return (more on that below).
As a thought exercise though I thought I’d try to put the valuation in perspective. Clearly Facebook is buying WhatsApp for both offensive reasons and defensive/strategic reasons, as described by others.
But what if Facebook decided to monetize WhatsApp through advertising as the core Facebook service is? I realize this may never happen and is an imperfect analogy even if it did. WhatsApp was conceived and operated with a deep conviction opposed to interruptive ads. Facebook has committed to keeping the WhatsApp service and brand, plus Koum will now be a meaningful shareholder and board director of Facebook so he retains far greater influence than most acquired companies. Also there’s a number of reasons why even if Facebook inserted ads into WhatsApp that they may monetize at lower rates… straight messaging services have historically monetized worse than content sharing (think ICQ & AIM). Furthermore WhatsApp users are predominantly in markets which have lower mobile ad spend, though Facebook similarly has a large portion of it’s base in these markets.
With that said, Facebook’s acquisition price is <10x the conceivable revenue for WhatsApp. In it’s most recently announced quarterly results (for Q4 2014), Facebook generated approximately $5B in annualized revenue (1) from mobile ads across 945 million MAUs (monthly active users) on mobile. This works out to $5.25 in annual mobile ad revenue per MAU. If you apply that to WhatsApp’s 450 million MAUs you’d get $2.4 billion in annualized revenue. Viewed through this lens, Facebook’s acquisition price of $19 billion is something like 8x conceivable revenue.
Again I’m not predicting that Facebook is just going to insert its existing ad formats into WhatsApp, and it may never monetize the service to this degree. I’m also not suggesting that we should apply Facebook’s revenue/user as a “conceivable” revenue metric to every mobile messaging service… most will never monetize at anywhere near that high a level. But a lot of people also underestimated Google’s ability to monetize YouTube when they paid $1.5 billion for it. That’s no longer the case… estimates range from $3-5+ billion for YouTube’s ad revenue in 2013.
Lastly, hats off to the folks at Sequoia. Not just for backing an exceptional team or generating a stupendous return (>$3B proceeds). They had conviction about this company and concentrated their capital in it, and as a result no other VC had the opportunity to see it after Sequoia’s initial investment. It would have been easy to let another firm lead the $50M round at a $1.5B valuation and still have a hugely valuable stake in WhatsApp, but Sequoia just tripled down on a company they believed in. This takes deep conviction and the willingness to do what some others may not. Kudos to them.
(1) $2.34B in quarterly revenue, of which 53% was mobile is $1.24B, which is $5.0B on annualized basis
It’s widely known we VCs focus on just a couple of key dimensions when making our investment decisions: team, market, product / technology, and investment parameters or “deal”. While all of these parameters are loosely connected and there are many paths to “yes” at the end of the day market size is the prime reason VCs pass on otherwise credible opportunities.
It’s well known VC’s love markets that are huge in size, but what’s sufficiently big for a market to be attractive to VCs? It starts with an honest appraisal of TAM.
TAM = “Truly” Addressable Market –> Wikipedia would have you believe that TAM stands for total addressable market. But as a VC, I typically think of it as “truly” addressable. If market is the chief dimension on which VC’s pass, market size is the chief element of that. VCs invest in disruptive startups that have the potential to build large ($100M+ revenue, enterprise value of hundreds of millions to billions) and durable businesses. It’s hard for startups to capture more than a small fraction (10% or less) of a market, therefore a market must be measured in the billions for a VC to believe there’s a credible chance a startup can be a “venture scale” business.
But in the abstract, anyone can say that the market for X is some astronomically high number. What matters is the amount of money truly spent on a startup’s product or service. There’s $100B+ spent each year on plane flights, hotels, and rental cars in the US… but if you’re an upstart online travel service, you’re not competing for those dollars unless you actually own a fleet of planes, rental cars, and a bunch of hotels. You’re typically competing for the dollars spent by companies that own fleets of planes, rental cars, and hotels to promote their services to travelers. It turns out that itself is a pretty big market which is why many big businesses have been built there (Priceline, Kayak, TripAdvisor, Expedia, Hotwire, etc). But conflating the market for hotel rooms with the market for online promotion by companies that offer hotel rooms will hinder your chances of raising capital.
Understanding and pitching the market size which is truly addressable for your startup is critical, and VCs only love markets that are large in “truly” addressable size. A marketplace’s true revenue potential is the % of the total GMS (gross merchandise sales) they can charge (typically 5-10%), not the total GMS. A payments company’s true revenue potential is the % of the payment volume they can charge to process those transactions (typically 2-4% on a gross basis, <1% on a net basis), not the total payment volume. Conversely when a startup’s service truly is a substitute in a monstrously large market, these companies can be massively valuable (e.g. Uber, AirBnB).
VCs will not ignore adjacent markets or the possibility of expanding beyond a startup’s home country, but will tend to discount both in the short run. While it’s certainly possible for a startup to build new products to serve adjacent markets and it’s easier to expand internet & software businesses globally today than a decade ago, neither are easy to do in the first 0-5 years of a startup’s life. Some services, both consumer & B2B, face localization challenges or cultural differences in expanding or building a strong brand in one market segment may actually make it more challenging to expand into others. So highlighting adjacent or international markets can be useful examples of how a startup’s truly addressable market expands naturally over time, but typically VC’s will focus on the core/home market.
So think honestly and hard in defining your startup’s TAM. That which is truly addressable is what will increase the chances of getting to yes with VCs.
Most consumer web/mobile companies focus on user growth and usage early in the company’s lifecycle before shifting to monetization. This is a logical thing to do… when we started LinkedIn, my mentor Reid Hoffman instilled a mantra of Growth –> Usage –> Revenue which still holds for many consumer companies. This is especially true for those with a media / ad based business model (e.g. Facebook, Twitter, etc), where scale is a necessary condition for even the first dollar of revenue, in addition to maximizing long term enterprise value.
But B2B startups need to take a different tack. We invest in internet enabled companies at NextView and our portfolio is roughly equally split between consumer and B2B businesses. Business facing companies typically provide software or an online service for which their customers pay a fee.
Arguably revenue is the best signal of product-market fit for B2B startups. In the early days of a B2B startup’s product, all of the following will come into play:
- If a business customer is willing to pay something for your early product, even nominal or beta pricing, that’s a pretty healthy indicator the product has value in terms of features and functionality.
- Potential customers’ willingness to pay will help you segment your target market (by customer size, vertical, geography, etc) more effectively than simply “researching” your market in abstract.
- Some potential customers won’t take your product seriously unless you’re charging for it.
- You will be benchmarked on revenue and paying customers when you seek Series A funding… conceivably even at seed stage.
The early goal isn’t to maximize near term revenue… it’ll take time to fully understand your market and establish P-M fit, let alone optimizing the sales & marketing engine. And this is not to say that there’s no place for having an unpaid product. There’s a myriad of pricing and payment structures for B2B companies – subscription, transaction-based, term/perpetual licenses, OEM/embedded services, etc. If you’re collaborating very closely with alpha customers, you may give away the product during initial development phases. And even as they mature B2B companies may offer portions of their software for free either as a basic tier of service, or a free trial period, or lead-gen products that help fill the top of the funnel.
So if you’re in the early innings of building a B2B startup, embrace early revenue rather than putting monetization off until the distant future. FWIW this largely holds true of commerce and transaction based consumer startups too (think of the beginnings for Uber, Airbnb, et al).