Reddit’s biggest risk is its reliance on unpredictable users

By Dave Lee

Reddit’s prospectus for its initial public offering finally dropped on Thursday, complete with the customary list of “risk factors” that the company thinks could give it headaches in the years ahead as a public company. At 40,000 words, it’s longer than Facebook’s and Twitter’s risk factor statements combined at the time of their listings.

As with IPOs past, many of them are boilerplate. An earthquake would be bad for Reddit’s business, for instance, particularly if it happens to occur within shaking distance of the company’s San Francisco headquarters. Also, the company faces many external threats common among several companes, such as losing the traffic it gets from Google, a collapse in the online advertising economy or the threat of World War III. All standard stuff.

Where Reddit differs among its tech peers — and where the company needs to go into great detail — is in its striking dependence on its user base to keep things operational. More so than any other online business I can remember, Reddit must keep its users satisfied on several important and delicate fronts.

First, it acknowledges that efforts to expand its limited (and already unpopular) advertising formats could send users packing. The majority of the company’s 73 million daily active users are there just to browse. Pulling up stakes and browsing elsewhere, if the ads become too annoying, is trivial when compared with the gargantuan effort required to leave Facebook, X or other platforms. Even if they don’t leave, Reddit users lean toward the tech savvy and won’t hesitate to employ ad blockers in large numbers (if they don’t already). For the past two years, the filing stated, 98 per cent of Reddit’s revenue is made up of advertising income. And of that, 26 per cent came from just 10 ad clients in 2023. Investors will be watching this closely and expect more diversity sooner rather than later.

Then, there’s the small matter of all the unpaid labour it relies on to keep things even remotely civil. There were 60,000 active daily moderators using the platform in December 2023, the filing stated, though it didn’t offer any historical comparisons — investors may want fuller disclosures around that figure to determine whether the number of active moderators is declining. That worked out to just more than 1,200 users for each moderator.

The going rate for a content moderator around the world varies greatly, but for the sake of expedience, let’s say it might average around $50,000 a year. That’s $3 billion worth of free labour. Reddit has only 2,013 full-time employees of its own and thus is relying on these passionate volunteers to stop its website from descending into chaos and keep advertisers from rushing to the exits.

As the site grows, the job of moderator becomes more burdensome for the volunteer and riskier for the company. “Mods,” as they are known, may disagree with the company on what constitutes offensive or inappropriate behavior, and as efforts to monitize grow, this will be a flashpoint. The site, it’s worth stating, is chock-full with pornography, some of which might be considered, by some, as pushing the boundaries of the morally acceptable. Even those users who don’t consume that content will reflexively resent any efforts to sanitize one of the edgier corners of the internet.

Fallout could be swift and effective, the filing warns. “Moderators can also band together and, for various reasons, decide to shut down the normal operation of their communities” and “reduce the amount of monetizable content generated by Redditors.” This could all happen in a flash, though the company said that a recent coordinated protest — in which several popular subreddits shut themselves down — did not have a material effect on the business.

And then who can forget r/wallstreetbets, the engine room of the “meme” stock craze that propelled GameStop’s ludicrous and explosive valuation growth in 2021? Reddit now acknowledges that the same community might bring more than a little volatility to its own stock — a warning worth reading in full:

“Given the broad awareness and brand recognition of Reddit, including as a result of the popularity of r/wallstreetbets among retail investors, and the direct access by retail investors to broadly available trading platforms, the market price and trading volume of our Class A common stock could experience extreme volatility for reasons unrelated to our underlying business or macroeconomic or industry fundamentals, which could cause you to lose all or part of your investment if you are unable to sell your shares at or above the initial offering price.”

In other words: Our most rapscallion users hold our fate, and your money, in their hands.

Reddit has a highly intriguing plan for counterbalancing these risks. First, a limited number of shares will be offered to retail investors, through brokers, giving the Robinhood day-trader crowd some skin in the game. More interestingly, through a “directed share program,” Reddit plans to offer a not-yet-disclosed amount of shares to some of its most dedicated users as measured by the amount of “karma” they have received on the platform.

Karma, for the uninitiated, is Reddit’s points system for posting interesting content or offering good comments on other people’s posts. Those with more than 200,000 karma, as generated by other users’ “upvotes,” will get first dibs on the available stock. Sadly, my 11 years of Reddit use has earned me a paltry 19,000. Long thought as meaningless internet points, karma is now a potential way in to one of 2024’s hottest IPOs, and perhaps its riskiest. No internet company has ever entered the markets so heavily reliant on the needs, wants and demands of its users.