Reddit IPO Forecast: Should You Buy RDDT Stock, Despite WallStreetBets' Pessimism?

Just about three years after the subreddit WallStreetBets triggered one of the most iconic short squeezes in history, with a group of retail traders acting together to get the best of Wall Street hedge funds, social media site Reddit is going public later this week.

This is Reddit’s second attempt at going public; the company had confidentially filed for an IPO in December 2021. Back then, we did not have much information about the company’s finances, nor were the price ranges available.

Cut to 2024, and we now have the price range as well as the valuation that Reddit is targeting in the IPO. Meanwhile, many WallStreetBets members sense a short-selling opportunity in the stock after the IPO. Here’s the forecast for Reddit stock, and a look at whether WallStreetBets might make a meme stock out of it.

Reddit IPO: Date, Price and Valuation

Reddit is expected to go public this Thursday, and will be listed under the ticker symbol “RDDT.” It has kept the price range between $31 to $34, though final pricing will be announced ahead of the IPO, based on demand from investors. According to Reuters, Reddit’s IPO is oversubscribed by around five times, which means that the company could price it at the top end of the range, or even higher.

Looking at the IPO price, Reddit is seeking a valuation of up to $6.4 billion. At its most recent funding round in 2021, the company was valued at $10 billion. The markdown in valuation since then is hardly surprising; over the last couple of years, we have seen a similar valuation compression in both listed as well as private growth companies.

In fact, the world has effectively turned upside-down for growth stocks since 2021, as the Fed has since raised rates to their highest level since 2007, thereby squeezing the supply of easy money which was being channeled into assets like growth stocks. The most recent and pertinent example is Instacart(CART), which went public at a $10 billion valuation last year - roughly a quarter of its 2021 valuation. 

The macro environment has also worsened, making investors wary of loss-making companies. At the same time, the kind of growth many companies witnessed between 2020 and 2021 has since withered away.

Reddit IPO Forecast: The Valuations Don’t Look Compelling 

Reddit generated revenues of $804 million in 2023 which was 20.6% higher than the previous year. However, the company posted a net loss of $90 million in the year, compared to $158 million in 2022. Reddit hasn’t yet churned out an annual profit since it was founded two decades back, and continues to burn cash. In 2023, it posted negative free cash flows of almost $85 million, which was somewhat better than the $100 million in cash the company burnt in 2022.

In its IPO, Reddit is commanding a 2023 price-to-sales multiple of almost 8x. The valuations don’t really look mouth-watering, as the valuations of growth companies like Reddit have compressed amid the changed economic and interest rate environment.

What Risks Does Reddit Face?

Almost all of Reddit’s revenues come from advertisements, and the company relies on content generated by users. Furthermore, the content is moderated by volunteers who are under no compulsion to keep doing so - and in fact, many withdrew from the responsibility last year when Reddit announced that it would start charging for its API. While relying on free content and volunteers might sound like a lucrative business model, there are pitfalls, as Reddit warned in its S1 filing.

“If Redditors do not continue to contribute content or their contributions are not valuable or appealing to other Redditors, we may experience a decline in the number of Redditors accessing our products and services and in user engagement, which could result in the loss of advertisers and may harm our reputation, business, results of operations, financial condition, and prospects," it said in the regulatory filing. 

The filing also warned of “extreme volatility” in Reddit’s stock price amid “strong and atypical retail investor interest” on social media sites, including the WallStreetBets subreddit.

Should You Buy Reddit IPO Stock?

Despite the reported oversubscription for Reddit's IPO, I don’t find it an exciting buy at the price range. A trailing price-to-sales multiple of 8x does not look appealing, considering last year’s 20% revenue growth and perennial losses. In its filings, Reddit listed artificial intelligence (AI) as an opportunity and said its “content is particularly important for” AI. It added that “it is a foundational part of how many of the leading large language models (“LLMs”) have been trained.” The company recently also announced a deal with Google (GOOG) to train its AI models on Reddit posts. Since then, the Federal Trade Commission has opened an inquiry into Reddit licensing user posts for training AI models.

Overall, I am not sold on the Reddit IPO, despite the company seeking a much lower valuation than its previous funding round. While WallStreetBets might not have the stealth to trigger the kind of meme trades it did in 2021, market forces should ensure that the stock settles near its fair value - which I believe is lower than the $6.4 billion the company is seeking in its IPO.