The wrong obituary has been written for the US IPO

Date published: 02 February 2018

Robin Wigglesworth

In January TechCrunch, as close as you will get to an in-house blog of the technology industry, wrote an obituary of the initial public offering. It has plenty of company in declaring the death of the American IPO.

Ever since Google went public through an unusual “Dutch auction” process in 2004 there have been periodic laments over how the IPO is dying. But lately, the emergence of multibillion, stubbornly-private “unicorn” tech companies and a multi-trillion dollar buyback spree has exacerbated concerns that US stock market is itself shrinking into obsolescence.

The topic was even discussed at a high-powered panel at Davos this year. But is the US public market really in such a decrepit state?

The headlines admittedly look damning. The number of US public companies has fallen in every year but one since 1997, roughly halving over the period to about 3,600 in 2016, according to a new working paper published by the National Bureau of Economic Research. 

And this is not a global phenomenon. The US now has “abnormally few listed firms” compared to other countries, and the $3.6tn worth of share buybacks since 1997 actually outpaces the amount of money raised through IPOs over that period, the paper notes.

There are many reasons for this trend, and plenty of anguish over its consequence. But in reality, most look flawed on closer inspection. 

For example, the popular notion that the US stock market is just too impatient for visionary, long-term founders is feeble. Sure, fund managers tend to prize profits and regular dividends more than growth-obsessed venture capitalists, but they often show admirable patience. Amazon went public in 1997 but didn’t eke out an annual profit until 2003, and Tesla still burns through cash, almost eight years after listing. 

There are also plenty of alternatives for smaller companies looking for money — a vibrant ecosystem of venture capitalists, angel investors, private equity firms and even crowdfunding sites — that didn’t exist 20 to 30 years ago. 

At a time when a dog-walking app can raise $300m from a single investor — and hordes of hopeful, hopeless and sometimes outright scammy entrepreneurs can raise billions through the cryptocurrency craze — it is fatuous to suggest that good companies are withering on the vine for want of money. 

In reality, beyond the headline IPO numbers something becomes clear: the issue isn’t that companies aren’t going public, it is that smaller companies aren’t, while big ones are being gobbled up by rivals. 

In the 1980s, IPOs that raised less than $30m constituted about 60 per cent of the total. By the 90s, that dropped to 30 per cent. Since 2000 they account for only about 10 per cent of all US IPOs. Meanwhile, the share of large IPOs increased from 13 per cent in the 90s to approximately 45 per cent.

This isn’t necessarily a disaster. The argument that the IPO dearth is depriving ordinary Americans of valuable opportunities doesn’t hold up to scrutiny. Sure, investing in Microsoft, Apple or Amazon’s listings would have reaped fabulous returns, but for every Amazon there are countless lost in the dustbin of market history. Even Groupon, the once much-hyped voucher company, is currently trading at a quarter of its IPO price. 

But if politicians and regulators are serious about “fixing” the IPO dearth, they should focus on trying to make public markets more hospitable to smaller companies, rather than running in circles trying to entice Silicon Valley’s unicorns into an IPO stampede.

This won’t be easy. The weight of regulations is real, but not decisive. Rather, it is the entire public market ecosystem that has become less hospitable to smaller companies. 

The number of smaller or regional brokerages that would take local companies public, and subsequently support their stock through trading and analyst coverage, has shrivelled. Meanwhile, mutual funds have grown bigger, and the due diligence needed to invest in a new public company is often not worth it. As the NBER paper points out, these are secular changes that no politician or regulator can do much about. 

The authors argue that for a variety of reasons the stock market is particularly unsuitable for young companies with “intangible capital” such as intellectual property, rather than hard assets such as factories. Instead, they advocate for some kind of alternative venue, perhaps somewhere smaller companies can get some of the benefits of being public without all of the obligations of a full listing on the New York Stock Exchange or Nasdaq. 

This makes a lot of sense. Some private markets have already sprung up to fill this need, and it would make more sense for policymakers to recognise, formalise and somehow support these venues, rather than degrade regulations and disclosure standards for the US stock market in a vain attempt to coax more IPOs out of Silicon Valley.


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