Mutual Funds Have a TikTok Problem

Perhaps the easiest way to sidestep the bear market that has ravaged public tech and social-media stock valuations in 2022 was to own a private company and name your own price.

That’s one potential lesson from recent disclosures showing how some big fund companies have valued their stakes in privately held ByteDance, the China-based parent company of social-media platform TikTok. As of September 2022, mutual fund companies owned more than $750 million of ByteDance shares, according to their most recent portfolio disclosures, but the valuations of their stakes contrast sharply with what has happened to their publicly traded peers.

Major Mutual Funds in ByteDance Stock

Fidelity, T. Rowe Price TROW, and BlackRock BLK funds all own stakes in ByteDance across numerous funds, though the positions in each are usually less than 1% of each portfolio. Like most social-media companies, ByteDance derives most of its revenue from selling targeted ads based on its users’ interests. A cooling economy, slowing ad spending, and changing Apple privacy policy have crimped the flow of social-media apps’ lifeblood—user data—and have pinched social-media business models this year and pressured top-line growth and margins.

These headwinds have created a hailstorm for publicly traded social-media companies. The shares of Meta Platforms META, which owns TikTok competitor Instagram, slid by more than 60% from September 2021 through September 2022. Snapchat SNAP, another short-form video company that vies with TikTok for users’ attention, dropped over 86% in that time. ByteDance faces the same issues as those firms and others unique to it. It is unprofitable; according to an early October report from The Wall Street Journal, it saw more than $7 billion in operating losses in 2021. Some U.S. politicians and regulators also have pushed to ban the app, or at least force the company to change its operations, because of national security concerns. ByteDance faces a nonzero possibility of being outright banned from one of its biggest markets by the stroke of a pen, and its future operating environment is far from certain.

This year’s market has not been kind to unprofitable companies with significant business risks. Since the start of the year, the Morningstar US Market Index lost 25% through September, the latest portfolio date for ByteDance holders. Unprofitable companies, however, lost 34% over that time, according to Morningstar attribution data, and unprofitable technology companies lost 47%. It has also not been the time to own Chinese companies—as ByteDance is. The Morningstar China TME Index fell 30% from the start of the year through September before dropping an additional 17% in October.

Funding Valuing ByteDance Higher

Despite obvious headwinds to its business model, a market selloff of similar companies, and an existential regulatory threat, mutual fund valuations of ByteDance either have barely budged or, surprisingly, increased. For instance, Fidelity’s ByteDance valuation rose more than 40% from September 2021 through September 2022. That would’ve made ByteDance the third-best-performing technology stock in the Russell 1000 Growth Index over that period. Since the end of 2021, T. Rowe Price’s valuation of the company increased 20% through its latest disclosed valuation in August, while BlackRock lowered the valuation of its stake, but only by 5%, through August. Fidelity and BlackRock said they would not comment on the valuations of individual private holdings like ByteDance, and T. Rowe did not respond to requests for comment.

The valuation increases imply a massive valuation for ByteDance. The company was valued at $360 billion in February 2021 at its last financing round. Fidelity’s most recently disclosed valuation, which is 50% higher than it was at that time, implies a nearly $550 billion market capitalization for the company, which would make it the ninth-largest company in the world. This suggests ByteDance is the unicorn of all unicorns. The largest ever IPO was Alibaba BABA, which began trading at a market cap of around $170 billion, less than a third of what Fidelity’s most recently disclosed valuation implies for ByteDance.

As documented in our recent paper on the state of private equity investing in mutual funds, fund companies have leeway in determining the valuation of private-company securities. Without a liquid market, fund companies are left to their own devices to value the holdings. The firms usually anchor to the valuation implied by the most recent fundraising round. However, according to PitchBook Data, ByteDance has not raised money since February 2021. Fidelity’s and T. Rowe’s higher valuations, then, are either the result of secondary market transactions that were not publicly reported or the fund families’ more optimistic outlooks for the company.

TikTok Taking Over?

There may be reasons for increased optimism. TikTok could be grabbing market share from its rivals. Meta, after all, has begun pouring billions of dollars into the metaverse, swamping quarterly revenue and threatening to steer resources from Instagram. Snapchat is struggling with user engagement, perhaps reflecting that younger users have begun using other social-media platforms. Finally, Elon Musk’s recent takeover of Twitter at a 40% premium could indicate what a strategic buyer may be willing to pay for a social-media company.

Still, even with an optimistic outlook, it is hard to believe that an illiquid position in ByteDance should have increased—or even only slightly decreased—in value over the past year. Fund company valuations seem to put little stock in the regulatory threat TikTok faces in the United States and imply that ByteDance is immune from the same business pressures faced by its public competitors.