Virgin Galactic Holdings Inc. [NYSE: SPCE] – Market Cap as of 08/11/2019 $2.126bn
Introduction
On October 28th, 2019, Virgin Galactic started trading on the NYSE and became the first publicly traded commercial spaceflight company. It did so by merging with Social Capital Hedosophia, a special purpose acquisition company already listed on the NYSE. The SPAC, founded by former Facebook executive Chamath Palihapitiya, acquired 49% of Virgin Galactic for $700m at an enterprise value of around $1.5bn. After the merger, shares of the company initially surged, giving Virgin Galactic a valuation of more than $2.4bn. However, shares are down around 20% since then and the company’s value is now closer to $2bn. Considering the recent string of failed IPOs of loss-making startups, it remains to be seen what investor sentiment will be for a pre-revenue startup which operates in the extremely experimental spaceflight industry.
About Virgin Galactic
Founded in 2004 by Sir Richard Branson, Virgin Galactic is a spaceflight company under the umbrella of the Virgin Group. It currently has 800 employees and is headquartered in Mojave, California. It owns The Spaceship Company, a subsidiary that owns the technology for Virgin’s spacecraft and manufactures all of its vessels. Virgin Galactic was initially capitalized by a $100m investment by Virgin Group. In 2010, Aabar Investments group, Abu Dabhi’s sovereign wealth fund, bought a 31.8% stake for $280m. It then invested another $100m to increase its total stake to 37.8%. Through capital injections by both Virgin Group and Abar Investments over the past 15 years, the total capital invested to date is just over $1bn. The company’s core strategy is divided up into two main segments: space tourism and point-to-point high-speed travel.
With flights expected to begin in 2020, space tourism is the most publicized and, at least in the short term, the most important revenue driver for the company. The company currently only has one spacecraft, the VSS Unity, and it holds 6 passengers and two pilots. On a trip, Unity is transported 45,000 feet above sea level by a carrier plane, after which it separates from the carrier plane and flies up to 90km above sea level. Passengers then briefly experience microgravity, after which the spacecraft re-enters the atmosphere. The entire trip takes 90 minutes and passengers are certified as astronauts by NASA afterwards. To raise capital, Virgin Galactic has allowed prospective customers to place deposits and reserve seats on future space flights. At a price per ticket of $200,000 which was eventually raised to $250,000 in 2013, Virgin Galactic had received refundable deposits from over 600 customers totalling approximately $80m. It paused its order-book in 2014 and claims that it has received more than 2,500 customer inbounds in the 5 years since.
In the long term, Virgin Galactic’s strategy is much broader and diversified. One core emphasis is the disruption of the $900bn commercial aviation market. With commercial jetliners currently operating at speeds of Mach 0.8, Virgin Galactic hopes to design a Hypersonic Jet that operates at Mach 5 (5x the speed of sound). For reference, this would reduce the flight time between Los Angeles and Tokyo from 11 hours to 2 hours. This high-speed point-to-point travel market is expected, by conservative estimates, to be worth $20bn annually, greater than the space tourism market, which is expected to be worth $3bn by 2030. To develop this technology, Virgin Galactic is collaborating with Boeing and has received a strategic $20m investment post-IPO investment by Boeing’s venture capital arm: HorizonX Ventures.
Virgin Galactic is a pioneer in the spaceflight industry but its business model comes with multiple risks. The biggest such threat is a crash of one of its vessels. In an industry as speculative and unproven as spaceflight, any fatality or injury to passengers would immediately diminish demand and cause customers to request refunds. Such a crash has also occurred previously, with the first model of SpaceShipTwo breaking apart in mid-air during a test run in 2014. The event killed one pilot and severely injured another. It should also be noted that the reputational damage of a crash would be more profound on a consumer-facing spaceflight company like Virgin Galactic, as it would lead to the loss of human life, versus a more commercially focused company like SpaceX. Another key threat is execution risk: Virgin Galactic is essentially a pre-revenue startup and it is extremely difficult to gauge whether it will be able to ramp its operations as projected. The company also has a history of consistently setting lofty goals and not meeting them. The company first announced it will begin flights by 2010, yet it did not complete a rocket-powered test of its vessel until 2013 and was not able to reach the boundary of space until 2018. Thus, it would not be surprising if their projected ramp (16 flights in the next year alone and 270 flights by 2023) is plagued with delays. Lastly, the firm still needs approval by the Federal Aviation Administration to start transporting customers. This is not a certainty and is likely to take time.
Industry Analysis
Commercial space flights industry is one of those transforming the market as it was known until recently. However, despite hundreds of people from all over the world put down the deposits and are waiting for their first travels, some analysts began questioning how big the demand for commercial space tourism might be and whether enough ultra-wealthy customers can be persuaded to take such flights. Out of Virgin Galactic’s 600 bookings of a flight, 70% are reportedly coming from high-net-worth individuals with less than $20m and 10% from people having a net worth not exceeding $1m. This makes the latter ones willing to spend more than 25% of their savings on this one-time adventure and raises a question of how many such customers exist. Nevertheless, Richard Branson claimed that there is room for all the three main companies (SpaceX, Blue Origin, Virgin Galactic) but not for anymore: it will be tough for anybody else to come into the marketplace. On the other hand, UBS has estimated that the business of outer-orbit travel will become a $3bn industry by 2030 and the broader space industry will double its worth from $400bn today to $805bn by the same time.
It is also predicted that the industry would completely revolutionize long-distance travelling. The SpaceX’s plans for using the massive Starship rocket flying as much as 100 people would reduce the travel time from New York to Shanghai to 39 minutes instead of 15 hours. According to UBS analysts, if we assume that in the future 5 per cent of these longer than 10 hours flights will be serviced by space at $2,500 per trip, the revenue opportunity as of today will be more than $20 billion per year. What’s more, over 10% of people in the latest UBS survey said they would choose a spacecraft over an aircraft for long-distance travel. The industry becomes even more promising as through its business model: being both a tourism company and manufacturer of spaceships, Virgin Galactic resembles United Airlines back in times of Boeing Aircraft & Transport Co.
Much of the emerging activity concentrates in the US, but the rest of the world is following close behind. Except for Virgin Galactic, some other well-known companies include Jeff Bezos’s Blue Origin and Elon Musk’s SpaceX. While Blue Origin remains the main competitor for Virgin Galactic in terms of sub-orbital space travel tourism, SpaceX keeps on prioritizing lunar tourism and other forms of exploring space that extend beyond Earth orbit. Its famous reusable rocket, Falcon 9, maybe a key breakthrough allowing to reduce costs. Additionally, Falcon’s two stages, with the first one featuring nine engines, allows it to complete its journey even in the event of the engine shutdown. Keeping in mind Virgin Galactic’s high-profile crash that killed a pilot in 2004 after 10 years of perfecting the engine, this certainly gives SpaceX some advantage. However, there are also hundreds of small startups surrounding these companies, founded by space veterans and college students trying their hands at entering the business. Many of them focus on the technology of cubesats, smallsats and robotic servicing, while others concentrate on providing vehicles or platforms for private space travellers. They also receive a lot of attention due to their most innovative ideas, such as Planetary Resources’ plans to mine asteroids for materials like water, and some of them already achieved some successes, including putting a satellite into orbit by Beijing-based startup iSpace – China’s first privately funded firm to achieve it.
Public Listing Mechanism
Virgin Galactic made its debut on the public markets not through a traditional IPO process, but through a merger with a Special Purpose Acquisition Company (SPAC). This alternative mechanism for reaching public investors has been on the rise in recent years, with 48 SPACs listing in 2019 so far. Jumping on the trend, Virgin Galactic will merge with a SPAC called Social Capital Hedosophia, also known as a cash shell company—one that does not have any offices, employees or operations. The only value of such a company comes from the fact that it is listed. Former Facebook executive Chamath Palihapitiya created Social Capital Hedosophia to offer tech unicorns an alternative path to the IPO. He raised $600m in 2017 after listing his blank cheque company on the New York Stock Exchange. The company spent two years looking for a compelling target before settling on Virgin Galactic, a company that caught the eye of Palihapitiya for its potential to become a multi-billion-dollar business.
According to the terms of the deal, Virgin Galactic will receive a total of $1.3bn, including $1bn of common stock of the combined company and up to $300m in cash. Following the close of the deal, Virgin Galactic equity holders will own 51% of the merged company and Social Capital Hedosophia will own the remaining 49%.
The founder of Social Capital Hedosophia will also contribute an additional $100m at $10.00 per share after the transaction. Boeing has agreed to invest $20m in the combined company as well in return for new shares upon closing of the transaction.
In terms of valuation, the combined entity will have an enterprise value of $1.5bn, which implies a 2.5x multiple of 2023 projected revenue and a 5.5x multiple of 2023 projected EBITDA. After the transaction is completed, most of the cash from Social Capital Hedosophia’s balance sheet will be transferred to Virgin Galactic, so that the company can continue funding its operations to support growth.
Entering the public markets from the backdoor has several benefits. Firstly, the process is faster and cheaper than a traditional IPO. Moreover, it avoids the sub-optimal price discovery mechanism involved in an IPO. Rather than going through the process of roadshows and face uncertainty about the valuation investors will ultimately give the company, listing via a reverse merger allows the company to negotiate a price privately with the blank cheque company and avoid the scrutiny of the press. Finally, this structure also allows for better governance of the combined entity by involving the management of the shell company. Chamath Palihapitiya and Adam Bain, both experienced executives at top technology companies, will be added to Virgin Galactic’s board of directors.
The transaction is currently expected to be completed during the second half of 2019, subject to all necessary approvals.
Public Listing Rationale
Virgin Galactic’s rationale for raising funds is centred on growth and commercialization. Virgin Galactic expects to scale its commercial operations in mid-2020 and has noted that the public listing puts it “on a clear path” to launching the service. The company intends to use the cash injection from the deal to produce more spaceships and meet the growing demand for space travel. Two SpaceShipTwo vehicles are under construction in California’s Mojave desert, and the company will start building second WhiteKnightTwo carrier aircraft soon. By the end of 2023, Virgin Galactic aims to expand its fleet of spaceplanes to five SpaceShipTwo’s as well as heavily invest in micro-gravity and suborbital space conditions research.
The former Facebook executive has said the additional investment should help Virgin Galactic become profitable. Indeed, if it can begin commercial operations next June, the company could be profitable on an EBITDA basis by the end of 2021. Efficiencies of scale are key for the company to lower its costs and lower its ticket prices. According to research by Credit Suisse, lowering the ticket price to $100,000 from the current $250,000 would put Virgin Galactic’s Total Addressable Market at around 2m people. A ticket price of $50,000 would push the TAM even higher, to 5m people. Scaling operations will help Virgin Galactic sell more tickets, and eventually, earn more profits. While Virgin Galactic expects a loss of $104m next year, it projects a small profit of $12 million in 2021, which is to grow to $274m in 2023.
Moreover, Virgin Galactic’s listing will allow the company to widen its investor base. Previously, Virgin Galactic got its capital from its founder and several rounds of funding with Venture Capitalists and other funds. The listing on the New York Stock Exchange gives shareholders more liquidity and allows institutional investors to jump in through smaller-sized investments. The CEO of Virgin Galactic claims the company has attracted some “really good long-term shareholders”, but this remains to be seen as the company today is a highly speculative stock and many of its largest investors are Hedge Funds.
Market Reaction
Virgin Galactic’s shares opened at $12.34 on the New York stock exchange, thus valuing the company at more than $2.4bn with 196m shares in issue. The stock rose initially to as high as $12.93, showing investors support but ended the day flat at $11.75. By the end of the week, the company has lost 21% of its value, sinking to $9.35 per share. As the first IPO in the space tourism industry, Virgin Galactic showed how difficult it is to approach the matter. Chad Anderson, the CEO of Space Angels private equity firm points out that the lack of detailed financial data could be a reason Virgin Galactic’s stock hasn’t taken off. Other concerns focus on Virgin Galactic’s lack of a real business and the huge risks involved in the kind of service it plans to offer. As an investment, a company with no revenue and not even one completed space travel with a customer onboard is certainly highly speculative. Besides, some other loss-making companies, including Uber Technologies Inc and Peloton Interactive Inc, have been struggling since going public earlier this year, making it not easier for innovative companies with unproven models. The IPO market was also shaken by the would-be WeWork debut that turned out to be a fiasco when it didn’t happen. This automatically raises the concern about the possibly inflated private market valuations. Indeed, given all the money Virgin Galactic has raised to date, a $1.5 billion valuation for the company appeared to be “below liquidation preferences” and thus undesirable for its early backers. However, Virgin Galactic’s stock performance may pave the way for human spaceflight companies entering the market in the future. This can generate more engagement and finally more excitement for the broader market. What certainly also creates some reassurance about the company’s future development is the backing gained of more traditional space operators, including a $20m investment by Boeing.
Advisors
Credit Suisse acted as capital markets advisor and Skadden, Arps, Slate, Meagher & Flom LLP acted as legal advisor to Social Capital Hedosophia.
M Klein and Company, LionTree Advisors and Perella Weinberg Partners served as financial advisor to Virgin Galactic for the merger. Latham & Watkins LLP acted as Virgin Galactic’s legal advisor.
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