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This Law Could Crush Hopes for an Airbnb IPO

Many investors simply can't wait for the chance to buy into an Airbnb IPO. But New York just gave the homesharing platform a 1-star review, and that could delay an initial public offering for Airbnb stock if the company can't convince the nation's third largest state to change its mind.

Last week, Gov. Andrew Cuomo signed a law that would fine Airbnb hosts as much as $7,500 for advertising so-called illegal hotels on the homesharing platform. These are listings to rent homes for less than 30 days. Listings for individual rooms and for homes for more than a month will still be allowed.

New York state representatives register their grievances against Airbnb. Source: NY.gov.

The law creates a major headache for Airbnb, as New York City is its biggest market in the U.S., and much of its revenue comes from residents who rent out their homes  when they go out of town for a few days at a time. New York hosts generated $1 billion in revenue last year, about $100 million of which went straight to Airbnb in service fees. Airbnb said more than 40,000 hosts in the city could be subject to the new fines.   The law also underscores the contentiousness surrounding the homesharing site -- many cities have sought to impose ad hoc regulations amid a backlash against the start-up. San Francisco, Airbnb's home and the heart of Silicon Valley, has also chosen to fine hosts for illegal listings, as have a number of European cities.

Unsurprisingly, Airbnb responded by filing a lawsuit, contending that the new measure represents "irreparable harm," and that it unconstitutionally restricts the company's rights to free speech and due process.

Handcuffed by red tape

Airbnb has ballooned to a valuation of $30 billion on expectations that its stratospheric growth will continue. Its ride-hailing cousin, Uber, is now worth $66 billion based on the same logic. The benefits of both companies are clear. Using mobile technology, they take advantage of inefficiencies in the transportation and lodging markets, allowing ordinary individuals to put personal assets to money-making purposes.

But as they have spread across the world, they have encountered regulatory resistance around almost every corner from bureaucrats, special interests, local communities, and entrenched businesses. As both companies look towards IPOs, that regulatory risk remains the biggest hurdle to overcome.

Airbnb's regulatory challenges, including the one in New York, are a signficant deterrent for an IPO. The bar for legal and disclosure requirements is considerably higher on publicly traded companies, and the company's inability to operate legally in many of its biggest markets would be a dissuading factor to investors if it chose to go public. The New York law, for example, has been on the books since 2010, but officials only acted last week to give it teeth with a set of fines for violations. Airbnb board member Jeff Jordan told Bloomberg in September that the company needs more time to overcome regulatory hurdles before an IPO, and that a public offering wouldn't come until 2018 at the earliest.

More importantly, laws like the one just passed in New York are a huge disincentive to hosts, as the risk of a fine is simply not worth it in most cases. The consequences of the new legislation are unclear, but if housing authorities begin imposing thousand-dollar fines on hosts, the value proposition of the service will change drastically. The average NYC host makes only around $5,000 a year on the platform.

Considering the company's valuation and the fact that any IPO would be predicated on continued blockbuster growth, the threat of regulation such as the New York law is substantial as it could cause growth to slow dramatically or even reverse.

Airbnb's biggest challenge remains finding a way to operate with the support of local communities and governments in its most valuable markets.

The disrupter's lament

Like the many disrupters before it, Airbnb often laments that it is misunderstood. It sees itself as a unique force for good, helping middle-class tenants afford overpriced apartments and fostering community around the world. Its opponents, however, claim the opposite -- that the company is abusing limited supplies of affordable housing and creating dangerous situations by inviting strangers into residential buildings.

Disruptive innovations are almost always messy. Entrenched business interests tend to resist the new order, but in Airbnb's case that is not the primary challenge. In fact, in many of Airbnb's biggest markets, hotels have seen occupancy and room rates rise despite the prevalence of homesharing.

Airbnb's platform is too powerful and valuable to go away. It provides a unique benefit to hosts and guests, both financially and experientially. But fines like the ones New York is promising would badly damage the brand and its bottom line. If investors are ever going to get their hands on Airbnb stock, the company needs to find a way to reach a detente with its biggest detractors. 

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Jeremy Bowman is an NYC Airbnb host operating legally. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.