• Michalis Papachristodoulou

The Road to $100bn: how to grow a start-up through an examination of Airbnb’s journey

On the 10th of December, Airbnb entered the stock market and quickly earned a valuation of $100bn, more than even the company’s board had expected to reach. But how did Airbnb reach this valuation? In this article, we will analyse the key stages in the development of a business, from its inception until its IPO (Initial Public Offering), and the different types of funding available to a developing business.


Innovative Idea


Any new business starts with a good idea. This is usually about identifying a gap in the market and exploiting it. New businesses may come up with their very own innovative ideas. Alternatively, a business may import an existing business idea into a new market. This process may be the result of extensive deliberation and market research, but people may even stumble upon a billion-dollar idea.


Airbnb was an example of the latter. In 2007, two friends and roommates from San Francisco were just trying to find a way to make more money, when they decided to put an air mattress in their living room and market it as a bed and breakfast accommodation. They officially launched their service during a very popular conference, giving travellers who struggled to find a hotel a place to stay. Their idea proved very successful and the two roommates realised how profitable this business could become.


Nonetheless, innovative ideas alone are not enough. A business needs funds and technical expertise to develop. The Airbnb team got the technical expertise they craved in the form of a third co-founder, a computer scientist who was assigned the role of Chief Technology Officer. They developed their website and started offering short-term living quarters and breakfast for those unable to book a hotel in San Francisco. Airbnb wanted to expand further, but it needed money to do this.


Funding and Expansion


The first source of funds for most businesses is ‘seed money’; the first investment in a company from the founders themselves. The three co-founders of Airbnb used the income from their San Francisco lettings and then went on to raise an additional $30,000 through the sale of cereal boxes during Barack Obama’s presidential campaign in 2008. These sums were re-invested into the company, giving them the necessary capital to set up the foundations for their expansion. The use of personal investment from the founders themselves is usually required by investors and bankers, as it showcases the long-term commitment of the founders to their business idea and it is illustrative of their willingness to take risks.


Love money’, which is money loaned by family or friends to the business, may also be used alongside seed money, though it must be remembered that a business relationship with family and friends should only be initiated after careful consideration. Love money will usually be provided in exchange for a share in the business, diluting the founders’ share. This will reduce the control and profits of the founding team. Further, as a business looks to expand, seed money and love money are rarely enough, meaning that the founders are usually forced to look for external financing.


This may come in the form of ‘angel investors’. These are wealthy individuals who invest directly in small businesses owned by others in exchange for a share in the company, and a priority in the case of the company’s insolvency. They rarely take an active role in the management of the business they invest in, and instead prefer to take a supervisory position. In addition to their money, angel investors may offer their experience, technical know-how, and access to their contracts to help expand the business.


If the founders of a business do not want to relinquish control and ownership of their business, they are likely to seek funds from a ‘bank loan’. Banks will undertake a thorough due diligence process before advancing funds to a new business and may require a personal guarantee from the founding team. Yet, banks will only get a fixed, pre-agreed return on their investment. This means that if a business does well, the founders will get a larger share of the profits than if they had sold a share of their business to external investors.


Airbnb’s founders used two other methods of raising finance. They applied for, and were accepted by, a ‘business incubator’. This relatively new source of finance is designed to aid new start-up companies in their development by providing them with services, such as training, market research or office space. These incubators usually take a stake in the company they are helping, but they don’t have any control over it. They may be government-funded, or may simply be set up by private entities looking to invest their money.


The company went on to raise more significant sums through the use of ‘venture capital’ firms. These operate similarly to angel investors, taking a stake in the business in exchange for funds. Yet, venture capital differs in that funding does not come from a sole individual. Venture capital firms are companies set up to invest the money from various other parties. The pooling of money from various parties affects both the amount invested and the risk that venture capital firms are willing to take on, with venture capital being more suited to raising a higher amount and for riskier projects. Airbnb received funding from several venture capital firms, including Sequoia Capital and Greylock Partners, and they used these funds to expand and go global, becoming a globally dominant provider of short-term rental properties.


IPO


The next natural step for successful businesses is to get listed on a public market through an IPO. This allows the company to issue its shares to anyone in the public and raise substantially more finance than what is usually available for private companies. This also gives a company’s pre-existing investors an easy and quick way to realise their profit, as they can easily sell their shares to the public market at whatever time they choose to do so. It must be noted that listing is an arduous process, requiring compliance with regulations and extensive transparency regarding the company’s financial performance, and its operations.


With rumours of an IPO circling around Airbnb for years, the company finally took the risky step of filing for an IPO in the summer of 2020. The announcement came in the midst of the Coronavirus pandemic, leaving many investors sceptical of the company’s valuation. With the travel industry suffering its worst downturn, it was feared that Airbnb would flop in the public market, especially as its bookings dropped by almost 70% in 2020, and the company was forced to lay off a quarter of its workforce.


What transpired confounded expectations. The price of Airbnb’s shares more than doubled during their first day of trading in the Nasdaq exchange market. As Airbnb’s shares reached the price of $163 per share, the company’s valuation skyrocketed to a staggering $100bn, making it the biggest IPO of the year in the US.


Looking Forward


The year 2020 was a whirlwind for financial markets, with the Covid-19 pandemic, Brexit and electoral uncertainties all causing huge market fluctuations in the US and the UK. Governments unveiled historic financial packages to stimulate their economies. At the same time, interest rates plummeted, with some countries even going as far as to have negative interest rates. Both of these left investments in the financial markets as the only way for those with cash to get a return on their capital. Hence, despite the suffering of the real US economy, evidenced by a fall in the country’s GDP and a historically high unemployment, the value of the S&P 500 rose by 15% and the Nasdaq recorded an even more impressive 43% rise.


Many of the companies whose stock value has soared in 2020 may turn out to be overvalued and their share price is likely to tumble to reflect their true value. Airbnb’s business model and its large offering will allow it to recover once vaccines are rolled out widely and the Covid-19 pandemic recedes, though it’s unclear whether its share price will remain at its current heights. The only current certainty for Airbnb, is that it must get accustomed to the turmoil that comes with operating in stock markets.



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