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INITIATING COVERAGE

Pinning down the essential parts of Pinterest’s IPO

Reuters/Brendan McDermid
An artificially intelligent investment decision.
By Dave Edwards, Helen Edwards
Published Last updated This article is more than 2 years old.

Pinterest is a digital discovery platform that helps its users get stuff done. And, true to form, the company’s IPO filing shows that it’s getting stuff done itself. Pinterest—launched in 2010— has built an enviable audience, has a win/win value proposition for its users and advertisers, and has one of the most impressive AI platforms in the world. It’s accomplished all this while making steady progress toward profitability. Here are the seven things we think investors should consider:

Market

Pinterest shows that being a small player in the digital advertising market can still be a great business. While the company’s revenue of $756 million grew at 60% per year in 2018, it only represents 0.2% of the global digital advertising market. With digital advertising forecast to grow by almost 20% by 2022, there’s clearly opportunity to keep expanding. Pinterest also targets the most lucrative geography in the world, the US, which accounts for almost 40% of the global digital advertising market.

Ads aren’t a deterrent to users on Pinterest as they can be on other platforms. Pinterest users, called Pinners, come to the platform to find something to buy or to accomplish some sort of a project. More than 90% of Pinners say they use the platform to think about or plan a purchase. Given the visual nature of the platform’s search, Pinners almost exclusively search without a brand in mind–97% of the 1,000 most popular searches on Pinterest don’t mention brands, meaning ads that serve up useful results are welcome. Ads are truly native content on Pinterest and 78% of Pinners say that brands help them bring their ideas to life.

Audience

Pinterest’s audience should be the envy of the advertising world. More than 250 million people use Pinterest, including 43% of US internet users and more than half of millennials. These users are 39% more likely to buy retail products and spend 29% more than the average household. They include eight out of 10 moms who are “often primary decision makers when it comes to buying products and services for their households,” according to Pinterest. It’s clear from the company’s S-1 that the gender skew in Pinterest’s audience—two-thirds are female—has been key to its success. But the company is broadening its reach with men representing 50% of new users in 2018.

Product

Pinterest offers a unique discovery platform, allowing its users to share and find ideas for things they want to do or buy. While people can find things to buy on Amazon or places to go on Google, no platform provides the complete package of ideas and recommendations on Pinterest that use the combined power of human curation and artificial intelligence that are discoverable using visual search, or using images instead of text to initiate searches. According to eMarketer, visual search is the preferred add-on to digital shopping for millennials.

The company has proven its product market fit in consumer goods and retail and is intending to grow into a broader set of verticals including automotive, technology, financial services, media, and entertainment, and travel. If Pinterest is able to expand its discovery into these markets, it could add new users interested in new things and increase the amount of time its users spend on the platform.

Financials

Unlike many other unicorns planning to go public this year, Pinterest is on the road to profitability. The company’s revenue grew by 60% in 2018 and its net loss decreased by more than 50%. Pinterest’s costs for service delivery, research and development, and general administration are all declining as a percentage of revenue. Only the company’s sales and marketing expenses are increasing in line with revenue growth. If the company’s financials continue to evolve as they did last year, the company will be profitable this year. Of course, there are lots of things that can change so there’s no way to know for sure until we know more about management’s plans.

Risks

Despite the reasons for optimism, 2019 could be rocky for two reasons.

First, Pinterest is about to hit the slow part of its year. Pinterest’s revenue has declined by 25% to 30% in the first quarter of each year, meaning investors should expect the company to announce a decline in revenue for the first quarter of this year from the fourth quarter of 2018. The stock may not react well.

Second, Pinterest is entirely dependent on the advertising market and largely dependent on advertising in the consumer products and retail markets. If the economy slows to a recession, investors should expect that the ad market will slow as well—the ad industry declined 13% after the 2008 market crash. The effectiveness of advertising on Pinterest may help it weather a downturn better than others but investors should expect the stocks of all ad-related companies to fall in a recession.

We don’t think these risks are big enough to cause an investor to avoid the stock but they might be reason enough to think about waiting to buy or plan to build a position over time.

Governance

Pinterest has unfortunately followed the tech industry norm of creating a separate class of super-voting shares that prevents public market investors from controlling the company. But the company stands out by including employees and directors in that separate share class, not just founders as so many other companies have done.

Technology

More than anything, Pinterest’s future success depends on its ability to harness artificial intelligence. The company’s S-1 states: “revenue growth will be driven more by the quality of user engagement and higher monetization of users than by sheer growth of users.” We think increasing Pinterest’s user engagement is all about its AI, and as the S-1 explains, there are two difficult AI challenges that Pinterest tackles: context and personalization, and visual experience.

People often can’t describe what they want but they know it when they see it. Pinterest has invested heavily in its own unique AI to optimize visual search and provide the context and personalization users are looking for. With computer vision technology, the AI “sees” the objects that users pin, rather than relying on text descriptions. The Lens feature on Pinterest uses the camera on Pinners’ mobile phones to search for objects within images, a standout feature that is ready-set for commerce.

But it’s not AI working on its own. The curation of Pinterest is a collaborative exercise between human and machine. Most pins are handpicked and organized by people who then save that same image to their own boards, and therefore to other ideas and concepts. Pinterest calls this body of knowledge the “taste graph.”

The curation of Pinterest is a collaborative exercise between human and machine.

What matters about this process is that the AI can discover a rich set of associations about how humans contextualize information. Take an image of Machu Picchu, for example, which may be pinned by one person as “bucket list” but by others as concepts as broad as “mystical” or as narrow as “stone steps” or “llamas.” The sophistication of this context setting is unique in our research and approaches a level of commonsense reasoning that is a bit of a holy grail in AI.

What this taste graph also represents is the future: The intent of Pinners to work on a project. This is particularly important because it represents a prediction valuable to advertisers.

Pinterest’s second AI opportunity is continuing to improve its visual experience. As a platform, Pinterest is essentially a visual search and recommendation engine. The visual nature of Pinterest is key to accomplishing the company’s goal of growing user engagement. (Unfortunately, the S-1 doesn’t define user engagement, or how it is measured). Pinterest AI researchers note in a research paper that engagement on text-based content, such as quotes or fitness planning, is only around 25% of the engagement on highly visual content such as tattoos or art. Given that Pinterest is looking to expand into other verticals such as technology and financial services, we will be looking to see if they can pull off as much impressive AI development in more text-heavy fields.

In the world of AI, context and intent are very difficult for machines to learn. What Pinterest has achieved is impressive because it is unique in its ability to serve up a personalized and contextually relevant visual experience, at scale and at speed. Advertisers who design and organize for this rich environment are likely to see results that reflect the sophistication of Pinterest’s AI ecosystem.

Concerns about unhealthy technology and unsafe virtual places are real. Pinterest is a place that’s refreshingly free of toxic tech. The user experience is a juxtaposition of intent and serendipity, the recommendations are almost spooky in their human-like quality. This is a tech company that seems to understand how to combine humans and AI to create an ergonomically comfortable experience. The challenge is now to leverage this approach into more markets, more verticals, and more commerce.

Why you should pin Pinterest

We are pinning the idea of investing in Pinterest for three reasons. First, Pinterest stands out as an investment that will leverage improvements in artificial intelligence. Second, Pinterest is unique as a pure-play native advertising company. Third, Pinterest has a proven product market fit that uses the combined power of artificial and human intelligence to help people get stuff done. Given the near term risks of seasonality and a potential economic downturn, it may make sense for investors to slowly build positions to reduce the impact of stock price volatility. But we think it also makes sense to put this stock on the pinboard of our favorite AI companies.

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