INSTACART, once one of Silicon Valley's most highly valued startups, took an unusual step last Thursday (Mar 24) in what it said was an effort to retain and recruit talent. It lowered its own valuation by about 40 per cent.

The move bucks long-held operating procedure in the tech industry, which is to use lucrative stock options to attract the best and brightest.

But these days, no company is immune to the volatility sparked by high inflation, rising interest rates and the potential for a recession.

Other public companies, particularly those that were pandemic darlings like DoorDash, Etsy and Zoom Video Communications, have also seen their stock suffer in recent weeks.

For late-stage startups like grocery-delivery leader Instacart, pandemic swings have made attracting employees and appeasing investors a delicate balance.

Hoping to boost recruiting

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Instacart hopes a lower market value will boost recruiting and retention efforts by giving new employees more room for upside as the company grows and market conditions improve.

But by slashing its valuation to about US$24 billion, San Francisco-based Instacart dealt a blow to venture capital firms like Andreessen Horowitz, Sequoia Capital and D1 Capital Partners, that invested in the nearly decade-old startup at its latest funding round last year.

Critics question whether it was more of an opportunistic decision designed to reset growth expectations amid speculation of an eventual public stock offering.

"It's a gutsy move," said Phil Haslett, co-founder and chief strategy officer at EquityZen. "It won't come without public scrutiny but it will be providing better incentives for employees in the long-term."

New and recent hires will be getting more shares for the same dollar grant that they would otherwise receive because the valuation is lower.

"Our team built Instacart into the market leader it is today, and we believe investing in them is the right thing to do," Instacart said in a statement on Thursday.

Though uncommon, Instacart isn't the only once high-flying tech startup to force a reset.

In 2019, after years of diminishing returns on private stock transactions, Palantir Technologies slashed the price of employee stock options to about US$6 a share, valuing the company at about half of its previous US$20 billion valuation.

The revised stock plan allowed some employees to buy Palantir shares at a discount of more than US$1 off their original option price. The company went public the following year and is now valued at more than US$26 billion.

Still, Instacart's devaluation strategy is an unusual move and a rare admission that a company got ahead of itself.

In fact, many venture capitalists have been concerned for some time that startup valuations have gotten out of hand.

Differentiator

But it can also be a differentiator and give a company a leg up in the battle for tech talent.

"Given what's happened in the public markets in the last 3 months, the reality is that things are not always going to go up and to the right," said Angela Lee, a professor at Columbia Business School where she teaches venture capital and leadership courses.

"A lot of companies are trying to figure out ways to motivate employees to come over, but also to stay," Prof Lee said. "Savvy candidates will look at an offer and ask, 'What is the upside?'. "

Unlike a public company that has its share price on display on the stock market, a private company relies on a 409A valuation.

This process is conducted by a third-party, independent appraiser and determines the fair market value of a company's stock, also considered the "strike price" at which employees can buy equity in a company.

Companies are expected to conduct 409A valuations at least once every 12 months, but this can be as frequent as every quarter, especially if a startup is approaching an initial public offering.

Instacart said that it doesn't plan to raise money anytime soon and has not given timing on a stock offering.

Transparency

Announcing the new valuation, albeit lower, is giving employees transparency they don't normally get, said Niya Dragova, co-founder of Candor, a startup that helps tech employees manage their equity.

"Instacart will likely attract more seasoned candidates who see an opportunity for good multiples by joining now and thinking long about the stock," Dragova said.

But in the short term, not everyone will benefit. Long-time and former employees, along with investors, will take a hit.

"That's the nature of private markets, you have few data points and gotta roll with the punches," said EquityZen's Haslett. "I do think this is going to open the door for other tech companies to follow suit." BLOOMBERG