The Clock Is Ticking: Legislative Effect on the Valuation of TikTok

The Clock Is Ticking: Legislative Effect on the Valuation of TikTok

March 19, 2024

On March 13, the U.S. House of Representatives passed a bill requiring the sale of TikTok’s U.S. business within six months. If this is not accomplished, the U.S. platform must be shut down to address national security concerns. How might this affect the valuation of the business?

TikTok is owned by ByteDance, which, as of December 31, 2023, was the most highly valued unicorn in the world.

Per PitchBook, as of March 15, 2024, ByteDance has 63 active investors, many of whom are household names in the venture capital industry, all of whom are going to have to give their current valuation of their interests in ByteDance serious consideration as of March 31, 2024.

Factoring the Vote as an Input to the Valuation Process

The House of Representatives’ vote is a meaningful new input to the valuation process of any investor in ByteDance.

At a minimum, in thinking about March 31, 2024, valuations, investors will have to consider two incremental potential scenarios in their valuation analysis: the sale or shutting down of TikTok’s U.S. business, neither of which were likely considerations that were given meaningful weight in the December 31, 2023, valuation process. At this moment, neither of the two scenarios/outcomes (sale or shut down) are abundantly clear.

Effect of Sale of U.S. TikTok Business

The potential for a liquidity event resulting from the sale of the U.S. TikTok business can be seen as having a positive effect on the valuation. While this is the most desirable outcome, it is not without hurdles, namely, finding a buyer and receiving China’s approval for the sale, the latter of which could be a meaningful complication in the sale of the business.

As of March 15, at least one buyer had thrown their hat in the ring as an interested party: Former Treasury Secretary Steven Mnuchin is pulling together a consortium to buy TikTok’s U.S. business. Other interested parties may throw their hat in the ring.

Mnuchin may have to take his hat out of the ring if he can’t pull together a buyer group. That said, presumably, the existing investors in ByteDance would be heavily incentivized to participate in such a consortium if the alternative is a potentially large write-down of their investment.

Even if Mnuchin can assemble a buyer group, it is currently unclear as to whether China will block a sale of TikTok’s U.S. business over China’s security concerns around some of TikTok’s algorithms.

Will TikTok Investors Be Bidding Opportunistically?

From a valuation perspective, all else equal, potential investors in a company that is facing an existential threat typically are thinking to price opportunistically, not making a rich offer for the company. On the other hand, TikTok is a social media gem – any number of buyers may be excited to enter the bidding process to add this asset to their portfolio/platform and be willing to pay a premium to take advantage of this unique opportunity.

If one assumes that the existing investor group is the most likely set of buyers given the desire to avoid the worst case scenario, it creates an incremental valuation consideration – even if Mnuchin’s group is the only potential buyer, taking an opportunistic view on bidding would likely result in downward pressure on their valuations, potentially creating an incentive to “overpay” so as to not have to write their investment down as much as might happen.

Further, if other potential buyers were to consider making an offer, the realization that existing investors might make a “less opportunistic” bid might prevent other buyers from making a bid.

Regardless of who is bidding, the ability of China to block the sale will make the diligence process around the algorithms in question to be of the utmost importance. What losses in functionality would result from the loss of the algorithms in question? This assumes that a buyer will be able to perform a desirable degree of diligence, which may not be the case in this situation. This uncertainty will have a potential negative impact on price.

Effect of a U.S. Ban on TikTok

The potential for the U.S. to ban TikTok exerts downward pressure on any valuation. As noted above, the U.S. House of Representatives has passed a bill requiring the sale or shut down of the U.S. TikTok business.

As of March 19, it was unclear where the U.S. Senate’s discussion/vote will go, but there are reports of a “more cautious approach” to the discussion. That said, President Biden has signaled that he would sign legislation if it makes it to his desk, which could hurt any potential valuation.

Estimating Fair Value on March 31, 2024

The March 31, 2024, valuation process will be very interesting, as the issues raised above will likely not be resolved in the next two weeks, requiring investors to make and document informed judgements during their valuation processes.

Investors will have to weigh the probabilities of a sale versus a ban while weighing potential pricing of a sale, that different buyer groups might price the asset very differently, and whether a complete or partial blocking of a transaction by China could impact TikTok’s functionality, and ultimately its value.