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Published on: February 17, 2020
The benefits of staying private for longer
Has the death of the initial public offering (IPO) been greatly exaggerated… or not?
Q4 of 2019 saw the lowest level of IPO activity in the UK for a decade, with four IPOs raising proceeds of US$555M. The US IPO market experienced a decline of 8% by deal numbers and 26% by proceeds in the same quarter versus Q4 2018.
It’s not as if the reasons for listing on the stock exchange have gone away. Companies that have reached a certain size consider the IPO option in order to issue new shares to raise finance for further expansion through growth or acquisition, open up stock options for employees, increase their public profile and/or attract institutional shareholders.
Yet there are some equally compelling reasons not to take the IPO route. The process itself can be expensive and normally takes longer than initially planned. It’s also a distraction for senior management who need to sell their equity story to potential investors – and open up their (previously private) finances to close scrutiny by third parties.
Once listed, companies are also compelled to follow stock exchange rules on statutory reporting and disclosure. Their performance is tracked and reported on by brokers, analysts and media, making it difficult to operate ‘under the radar’ as a private company is able to do.
Post-IPO share performance is likely to be one reason for the recent slowdown in public offerings on both sides of the Atlantic. Some of the highest profile IPOs in 2019 made for disappointing outcomes for investors. Shares in Uber had plummeted 35% by October since the company’s IPO in May, while Lyft had lost more than 45% since listing in April.
The shelving of WeWork’s planned IPO and the fact that Peloton’s share price fell by 11% on its first day of trading have also knocked some of the shine off the sector.
Another factor is the new business model followed by many tech-based companies, which tends to be built around platforms that enable seemingly endless growth and boundless ecosystems. It may be exciting to see traditional markets being disrupted, but investors can find future value and earnings difficult to model, hence high share values corrected quickly post-float.
The trend for start-ups to trade longer as private companies has been building for some time, with US companies waiting on average 11 years before listing in 2014, compared to just four years in 1999.
So with more tech unicorns (companies with valuations over US$1 billion) and even decacorns (companies over $10 billion) in existence than ever before, how are rising stars financing their growth?
“Most people that are really rushing to go public, the No. 1 reason they do is because they need the money. We don’t need to raise money, and so we haven’t been in a rush.”Brian Chesky | Airbnb founder and CEO
[Reported in October 2019]
Nevertheless predicted to list in the USA this year, Airbnb’s continued success and clear strategies for the future has led to it attracting more than $4 billion in venture capital through 15 funding rounds.
The huge amount of ‘dry powder’ available from the venture capital and private equity sectors has enabled many tech companies to build their businesses over a longer period – often despite being loss-making. The possibility of massive returns from future exits is a gamble many VCs are willing to take.
And while predictions for a resurgence of global IPOs in 2020 are positive now that various political and economic uncertainties have receded somewhat, alternatives to the full-blown IPO are increasingly popular. Speculation is growing that Airbnb, for example, will take a non-traditional approach such as a direct public offering to begin trading on the stock market.
A second alternative is the reverse merger, often with a Special Purpose Acquisition Company (SPAC), the route Virgin Galactic followed when it went public on the New York Stock Exchange last October. Once called ‘the buyer of last resort’, the SPAC deal is on the rise. There were 59 SPAC listings on Nasdaq and the New York Stock Exchange (NYSE) in 2019, compared to 46 listings in 2018.
However, despite the bad press attracted by many recent IPOs, the fact that tech firms in particular are staying private longer and that alternatives to traditional IPOs are becoming more popular, it is far from the end for the traditional stock market listing process.
Indeed, where some investors fear – or at least decide not – to tread, there are opportunities for those who decide to take on the potential risks. The very fact that companies are staying private for longer means that by the time they come to list on the stock exchange they are no longer start-ups with good ideas, but relatively mature businesses.
Expect 2020 to be the year of IPO renaissance, albeit in multiple guises.