Tencent, offended by the terms and finding the $4 billion price tag too high, passed on the deal.
Two years later, in a commencement address at the University of Southern California, Evan looked back on rejecting Zuckerberg’s offer:
I’m asked one question most often: “Why didn’t you sell your business? It doesn’t even make money. It’s a fad.…”
I am now convinced that the fastest way to figure out if you are doing something truly important to you is to have someone offer you a bunch of money to part with it.
The best thing is that no matter whether or not you sell, you will learn something very valuable about yourself. If you sell, you will know immediately that it wasn’t the right dream anyways. And if you don’t sell you’re probably onto something. Maybe you have the beginning of something meaningful.
Tech startup acquisitions usually fall into three buckets. In rare cases, they’re good for both parties—a company could be doing very well but faces steep regulatory hurdles, like YouTube and PayPal. The acquirer gets a great deal in the long run, but it’s fairly clear that the startup could not have survived on its own. More commonly, one of the two parties gets a vastly better deal than the other. When the startup wins (Geocities, Broadcast), it sells at the peak of a bubble or at the peak of its own faddish popularity, then declines through mismanagement, a failure to innovate, or both. When the acquirer wins the deal, it offers a princely sum to a promising company early on and manages it well (e.g., Instagram), growing it into a business worth far more than the price it paid.
It seemed very possible that Snapchat was at the peak of a bubble in startup valuations. But it was unlikely, given all the metrics Evan and Bobby had seen around growth and engagement, that Snapchat was a fad and that they were headed toward a user or growth cliff. Evan obviously had asymmetric information about himself and his ability to manage Snapchat. He had looked into Zuckerberg’s eyes and met other leaders of the tech world and came away fairly unimpressed. He could play the game on this level. Evan believed he knew what users wanted better than Zuckerberg—or anyone at Facebook, for that matter.
Stories had just been released but was already looking like a hit. If it really took off, the company would make the leap to another level and be worth far more. As for monetization, the different attempts they had been testing out were promising; as long as they kept the product engaging and the user base growing, they could figure out how to make money.
While he juggled acquisition and fundraising talks, Evan also began to recruit executives to join Team Snapchat. Adding the right people to the C-Suite would be crucial for Snapchat to mature into an elite business.
Over Thanksgiving weekend, Evan convinced Emily White to join Snapchat as chief operating officer. White had graduated Vanderbilt University with an art degree before joining Google as employee number 230 in 2001. AdWords had just launched at the time, and White had been charged with figuring out an advertising and sales strategy for it; she moved on to run ad sales for the Asia, Pacific, and Latin America regions, and became director of emerging business. In late 2010, she left Google to join Facebook, following her former boss, Sheryl Sandberg. She began as director of local at Facebook then became director of business operations at Instagram after they sold to Facebook. She also served on the board of the yoga pants company Lululemon. White was easily the most high-profile employee to join Snapchat.
Netflix CEO and Facebook board member Reed Hastings emailed Michael Lynton to congratulate him on the big signing, noting, “She is a rock star. A Sheryl protégé.” The comparison was apt. Rather than starting her own company, White intended to join Snapchat in a similar role to the one Sandberg held at the nascent Facebook: advising the younger wunderkind CEO and turning the hot social property into a thriving business.
Legendary tech journalist Kara Swisher called it a “major talent grab,” noting that “the hiring is a clear signal that Snapchat intends to remain independent and grow its business, which is likely to include another large investment round of several hundreds of millions of dollars.… It vaults White to one of the more high-profile roles in the Internet space.”
The hiring spree would continue into 2014, as Peter Magnusson, a former engineering director at Google, left Google App Engine to become a VP of engineering at Snapchat. Mike Randall followed White from Facebook to become Snapchat’s VP of business and marketing partnerships. Randall had spent four years at Facebook running the Preferred Marketing Developer program, helping brands run ads and publish content through Pages.
So why did all these veterans leave cushy, high-paying jobs to go work for twenty-three-year-old Evan Spiegel? They bought into Evan as a visionary leader who would make Snapchat the Next Big Thing. They believed what Evan had always believed about himself.
On November 18, 2013, two weeks after the Facebook rejection hit newsstands and the Tencent funding round hit the skids, board member Mitch Lasky emailed Evan about the road ahead. Lasky’s email was a long memo, and Evan replied with an equally long memo, but for our purposes we will look at the exchange as a back-and-forth point-by-point. First, Lasky:
Here are some of the things I think we should have on the agenda:
1) Financing. At this point, we can take a couple of different paths:
On the one hand, we could pull back and attempt to “prove it” to the market to get the higher valuation. I’m not exactly sure what that “proof” would be. We always run the risk that overall froth in the market declines, and we end up filling a leaking bucket—doing everything right to “prove it” while macro valuations decline. I’m not that valuation-focused anyway, so this matters less to me.
If we think we are going to change the market’s perspective through revenue generation, I think that is quite dangerous to assume. Right now it’s all about users and growth and engagement, which we know will go up and to the right for a while. Once you introduce revenue, that becomes the dominant paradigm. Take subscriptions: if you got ~2% monthly active user conversion to subscription at $1.99 for the balance of the year with no churn, which would be pretty good, it’s $25–30 million post Apple/Google tax.2 It’s going to take a while to come up with a cluster of monetization schemes that get you to the point where you want to be judged on revenue/earnings multiples. We have to assume there is no AdWords-like magic bullet.3 I want us to be able to be really, really patient and get it right.
Lasky warned Evan that starting to generate revenue would change the lens through which investors evaluate Snapchat from user growth–focused to revenue-focused. He went on to suggest that Snapchat raise $50 million at a multibillion dollar valuation to give Snapchat a longer runway.
Just an hour later, Evan replied:
1) I 100% understand your perspective on the raise. That said, I would prefer to keep the valuation of the co at $800 million going into a potentially turbulent time in the market. We have 13 months’ runway, and with a minimally successful monetization scheme we will be able to comfortably extend that. I don’t think that monetizing the business will affect our ability to raise at high valuations—Facebook was bringing in money in the very early days and didn’t have any problem attracting high valuations. If anything, we need to monetize the business in order to create leverage for future financings as needed. In the next two weeks I want to focus on the monetization product rather than a potential financing. It’s almost there and it’s really awesome. If we have a business that is sustainable over the next 2–3 years we will be in a much stronger position …
We will benefit from having lower strike price4 as we hire over the next few years. Especially if that price becomes based on revenue rather than VC valuations. I don’t think $3bn valuation for fundraising is going to go away—esp because Tencent and others are already pricing in market volatility. You’ve seen the data—we have high engagement and high retention product with tremendous growth ahead of us. Monetizing the business now only makes a stronger case for the permanence of our product. I think the
most important thing I want to communicate to you is that this is not an emotional decision and is not about “proving it”—this business needs to make money. The argument of grow now, monetize later doesn’t make sense because we have reached abnormal levels of growth and our monetization product is value-added. I’d rather not burn another $100 million of other people’s money before we find out whether or not we have a business. If we can build profitable biz with Twitter-scale, 30-person headcount,5 and major growth ahead we are not going to have a problem attracting additional capital. (This does not preclude necessity of building a much larger team).
At a young age, Evan would listen in on his father’s long legal calls, which he credits for giving him early business exposure that helped develop his critical thinking and business accumen. He can often become obsessed with ideas, hungrily learning everything he can about them at a rapid pace. Evan is constantly curious and is learning and getting better at being a CEO very quickly. But his two superpowers are (1) his ability to get inside his users’ heads and think like a teenage girl and (2) his knack for attracting brilliant, powerful mentors. Evan loves picking other people’s brains over a walk or a meal. Over the years he has attracted an A-list roster of mentors, including SoftBank’s Nikesh Arora, Twitter’s Jack Dorsey and Google’s Eric Schmidt. He doesn’t just limit these brain dumps to tech luminaries, though, as he often walks and chats with fashion designers, politicians, documentary filmmakers, and other intriguing peers. Often, these impressive people will come speak to Team Snapchat at their Venice headquarters.
Lasky continued his memo:
2) Hiring. If we are going to go for it and build the big company you want to build, we need to accelerate the hiring of the executive team. The IVP6 guys said they introduced you to Zander as a potential COO. I think of him as more of a business development type but he’s a good guy and very smart. Is Daversa [a head-hunting firm] formally retained on the COO search? We should get our general counsel search rekindled, too. We’ve passed on some good options and I want to make sure we aren’t looking for a unicorn. And if we are planning to generate revenue early in 2014, we really need a CFO or at least a VP of Finance. Let’s discuss.
Venture capitalists frequently push young, inexperienced founders to bring on more seasoned executives to build out a team that can take a high-growth company to the next level. The most crucial hire for Snapchat would be a COO who could serve as Evan’s number two.
Evan replied:
2) I completely agree. Not interested in Zander. I am working with Daversa on CAO/COO role and meeting with 4 terrific candidates this week. Will report back on those meetings. As far as general counsel goes, I have my dream candidate and I think we can make it happen. I am calling him today to discuss but don’t feel comfortable bringing him on until we are making money. We will be able to attract best (and risk-adverse) candidates if we can show a path to real revenues. I am moving Philippe to internal operations (we can discuss this on the phone, please do not discuss with him as I have not yet had this conversation with him) and I think he will be able to monitor cash flow while we look for CFO or VP Finance. We’re not doing anything fancy—we just need to know if the amount of money in our accounts is increasing or decreasing.
Evan again pushed for generating revenue, framing it this time as a way to attract a better team.
Back to Lasky, who advised Evan to apologize to Zuckerberg in order to stay on good terms:
3) FB. Confidentially, Zuck pinged Cohler during the peak of the news cycle on the acquisition leak. He was disappointed that the deal didn’t get done, but also believes that you leaked this to the press in order to bolster your fundraising efforts. Cohler told him that he could easily make the argument that FB leaked it to put pressure on Snapchat, or that it was leaked by a third party. Regardless, my advice is to be the bigger person and call Zuck and apologize for the leak (even though it wasn’t your fault) and deny any culpability. I know you have no interest in selling to him, but you want to keep on good terms with the enemy.:)
Evan again:
3) [Re: Zuckerberg] We texted last week, planning on calling him today.
Lasky concluded by informing Evan that Lightspeed partner and early investor Jeremy Liew wanted to sell part of his stake if Evan sold some of his own shares in a funding round, and advising Evan to make sure everyone on the Snapchat team was on the same page:
4) Lightspeed. Finally talked to Jeremy late yesterday. He clarified his position on selling. Said that he’s a seller if you are a seller—if you do any secondary he wants to sell pro rata.7 He denied that he’s a seller into a 100% primary deal, but who knows—that could just be VC posturing.
5) All Hands Meeting. You’ve probably already done this, but if not you may want to consider getting your staff together briefly and telling them what’s going on—well, maybe not everything, but these are key moments to communicate. They are reading about all this in the press and are probably wondering what’s happening. It’s totally natural. Good opportunity to remind everyone that you plan to build a big company together.
Anyway, I wanted to get this to you now because we may not talk until later in the week. Sorry for the long email.
—Mitch
Evan quickly responded to Lasky’s main points before adding on a lengthy note about his thoughts on the macroeconomic environment and why he wanted to generate revenue sooner rather than later:
4) [Re: Lightspeed] Talked to David this AM, sounds like Jeremy will be following up with Tencent later in the week. David seemed to think the deal could get done. As I mentioned earlier, I don’t care either way but we would probably have to offer it to all shareholders to avoid potential lawsuit down the road. Could be more trouble than its worth.
5) [Re: All Hands Meeting] Happened at 10am.
As a note: my view of the market is as follows—
Fed has created abnormal market conditions by printing money and keeping interest rates low. Investors are looking for growth anywhere they can find it and tech companies are good targets—at these values, however, all tech stocks are expensive—even looking at 5+ years of revenue growth down the road. This means that most value-driven investors8 have left the market and the remaining 5–10%+ increase in market value will be driven by momentum investors.9 At some point there won’t be any momentum investors left buying at higher prices, and the market begins to tumble. May be 10–20% correction or something more significant, especially in tech stocks. Facebook has continued to perform in the market despite declining user engagement and pullback of brand advertising10 dollars—largely due to mobile advertising performance—especially App Install advertisements.11 This is a huge red flag because it indicates that sustainable brand dollars have not yet moved to Facebook mobile platform and mobile revenue growth has been driven by technology companies (many of which are VC funded). VC dollars are being spent on user acquisition despite unknown Life Time Value12 of users—a recipe for disaster. This props up Facebook share price and continues to justify VC investment in technology products based on abnormally large market cap companies (i.e. “If this company attracts just 5% of users that FB has, it will be HUGE”—fuels spend on user acquisition as user growth is tied to values). When the market for tech stocks cools, Facebook market cap will plummet, access to capital for unproven businesses will become inaccessible, and ad spend on user acquisition will rapidly decrease—compounding problems for Facebook and driving stock even lower. Instagram may be only saving grace if they are able to ramp advertising product fast enough. Total internet advertising spend cannot justify outsized valuations of social media products that derive revenue from advertising. Feed-based advertising units will plummet in value (in the case of Twitter, advertising spend may not move beyond experimental dollars) similar to earlier devaluing of Internet display advertising.
That said, we are still in very early days in mobile application market. I remember growing up wishing I had been a part of PC revolution—and I feel very fortunate
to have the opportunity to watch smartphones take off. Snapchat has become one of the top 5 mobile phone brands with Facebook, Twitter, YouTube, and Instagram.
For Snapchat to capitalize on market conditions in next 3 years, it is imperative that we become a revenue-generating company. That will allow us to attract the best talent and prosper despite extreme scrutiny on traditional social media that will have failed to deliver on $$$dreams. Team is working overtime to drive revenue and innovate on core product—we have a solid 3-year roadmap that we intend to follow.
As a profitable growth company with a focus on mobile we will not suffer from opportunities to raise capital at outsized valuations despite market conditions. Strategically it is important for us to keep expectations low with an understanding that Snapchat may be valued on revenues going forward and that $800mm valuation for a two-year-old company is remarkable and already more than enough to grow into. With 13–15 months of runway extended by minimally successful revenue generation activities, I think we are positioned to capture the mobile communication market.
I disagree wholeheartedly with the notion that mobile will be forever fragmented—we are the only differentiated messaging service in the United States and we will continue to provide a unique and innovative product experience. Snapchat is not valuable in the long-term because it is used by teens or because it is a threat to Facebook. It is valuable because it has fundamentally changed the nature of digital communication in <2 years and will continue to do so for the life of the Company (may it be long and prosperous).
Our focus in the immediate term is revenue generation, growth and product development.
The clarity of Evan’s response showed how much he had learned. Evan began with the world at large, then narrowed to the tech world, then his main competitor, then Snapchat, considering this entire stack now and in the future. He understood where his main adversary, Facebook, was weak and where it was strong, at least product-wise. He understood his users and what they liked inside and outside of Snapchat.
How to Turn Down a Billion Dollars Page 13
