Change Brings Opportunity in the IPO Market

The IPO market has seen a steady and severe decline from last year’s incredible highs. While the reasons are numerous, pre-IPO and newly public companies and their boards are handling market turmoil in diverse ways.

Then and now. It’s a tale of two markets, and, some might say, of two worlds. Last year was one of outsized excitement and optimism, propelled by the hope of a dwindling pandemic and a return to life outside of our homes. This year, however, has witnessed geopolitical instability, flamed by the invasion of Ukraine and escalating tensions between China and Taiwan, in addition to continued supply chain troubles, trade sanctions, inflation, and rising interest rates.

Last year saw a hot market for initial public offerings (IPOs) and record amounts of money raised. This year, we’ve experienced whiplash from the drastic drop in both the number and valuation of IPOs. As of Oct. 28, 2022, 168 companies (including special purpose acquisition companies, or SPACs) had gone public in the United States this year; according to Stock Analysis, the same period in 2021 saw 862 IPOs. This marks a decrease of 80.5 percent year over year.

“It feels more brutal than normal,” said Lynn Atchison, a director at Bumble, Q2 Holdings, and Absolute Software Corp., and the former chief financial officer (CFO) at HomeAway. “There’s always whiplash, there are always ups and downs of the IPO market…. But it is just such a stark difference between the record number of IPOs and now. It’s all but essentially dried up."

While some companies that intended to go public this year have withdrawn their plans, others are still forging ahead. In any case, pre-IPO and newly public businesses are faring the rough seas by strengthening fundamentals—and taking opportunistic risks.

Under-Delivering IPOs

It isn’t only broad geopolitical and economic winds that have resulted in lower corporate valuations. According to Rani Doyle, executive director of the EY Center for Board Matters, lower corporate valuations are also due to the underwhelming performance of other companies that recently went public.

In “Under Construction: Why and How to Build a Pre-IPO Board,” the May/June 2021 cover story of Directorship, I wrote the following:

“Picture this: Tech stocks soar in valuation over the course of a few years as excitement builds around new digital capabilities, even if the tech companies that are going public aren’t always profitable. Then these companies begin to go under and disappear, and the economy turns bearish. Sound familiar? This describes the dotcom crash of the early 2000s. Though what has happened in the markets over the past couple of years and during the COVID-19 pandemic is similar, 2020’s bear market lasted a record-short 33 days—and initial public offerings are back in full swing, with tech and health-care companies that have benefited from the prolonged crisis leading the surge.”

What perhaps could not have been easily predicted then is just how deep the similarities between the dotcom crash and now run. Technology shares have taken quite a hit this year. More than half of the 53 tech businesses that either had an IPO or directly listed last year saw their stocks trading at 50 percent or less of their offer or opening prices as of early May. According to CNBC, companies that have taken such a dive include Coinbase Global, Rivian Automotive, Robinhood Markets, Toast, and UiPath.

The IPO market might not have experienced last year’s historic levels of activity—$286 billion raised on US exchanges by traditional offerings and SPACs, according to Nasdaq—had there been no COVID-19 stimulus or as much hype around SPACs. SPACs became extremely trendy in 2020 as companies saw them as a cheaper and quicker alternative to the traditional offering. But given regulatory pressures introduced at the height of SPAC mania, in addition to this year’s stock market decline, interest in the vehicle has diminished. In fact, July saw no SPACs issued, according to CNBC’s analysis.

“SPACs became attractive to investors as never before, attracting lots of big names and tons of money. Many IPOs were built on growth stories and, in the case of SPACs, projections that proved over-ambitious in many cases, if not just outright inflated,” Doyle said. “Many 2021 IPO companies were young and unprofitable, and with 20/20 hindsight… ultimately viewed as overvalued. Strong personalities and good storytelling seemed to go far in driving confidence last year.”

The boom also coincided with the wish to return to normalcy and to break free from the stagnancy that pervaded personal and professional lives alike with the onset of the COVID-19 pandemic. The prospect of growth and the excitement in the market in some cases engendered overpriced offerings and poor preparation from the companies going public and their leadership teams. As a result, tech and other companies that have been watching the IPO and SPAC markets over the past few years may be cautious approaching their own ambitions to go public.

“It’s like a dose of medicine,” Atchison said. “You see other companies and management teams that you respect that went public and you as a board member or as an executive believe, if they can do that, we can do it. Now seeing that from afar, I don’t think it stops you from going public… but it does cause you to pause because you’re seeing good companies that were living their best lives as private companies and their worst lives as public companies during this time period.”

Companies seeking to go public this year may have to consider slashing their valuations—by half, the Wall Street Journal reports, as the “IPO market is on pace for its worst year in decades.”

IPO Withdrawal

Chobani and Fresh Market are just two companies that have pulled their plans to go public entirely this year. Justworks, a business software firm, postponed its IPO in January, then officially withdrew its plans in July.

HomeAway, now known as Vrbo and owned by Expedia, went public in June 2011. However, it had initially planned an IPO in the spring of 2008, just before the Global Financial Crisis. Two weeks before the company was set to file its S-1, it decided to wait.

“When HomeAway did that many years ago, we had plenty of cash to run the business, but we wanted to do more [mergers and acquisitions] and invest in the business,” said Atchison, then the CFO of HomeAway. “So we decided to forgo the public markets at that time and raised money by bringing in a new lead investor as well as raising additional capital from existing investors.”
While HomeAway was strong capital-wise and could afford not to go public on the originally planned date, not all companies are in the same position. Asking about the company’s access to capital is one of the first things the board should do to help decide whether to postpone an IPO. Is it necessary? Does the company need to raise money? Assessing the volatility within the company’s industry, whether there’s volatility for direct public competitors or simply across the whole stock market, and what that means for the company’s ability to have a successful IPO are all relevant board considerations, Atchison suggested.

“It’s reading the tea leaves and asking yourselves, What is the chance that we might not even close the IPO? Will there be a chance of closing the IPO in the lower end of the range?” Atchison added. “Understand that once you’re out there, you’ve been thrown into the deep end, you’re out there swimming with the sharks. Does this management team feel confident in this environment?”
The decision to postpone an IPO should not be viewed exclusively as a way to avoid risk. In fact, Atchison suggested that companies might consider postponing or withdrawing their plans in order to take a risk—such as an acquisition or investing in a new product—that they could not take in the public markets.

“We ended up making an acquisition of a foreign entity that was a great business but had a messy accounting operation,” Atchison said of one risk HomeAway took at the time. “Our ability to get GAAP numbers took not weeks, but months and months, and we couldn’t have done that as
a public company.”

Even if postponing the IPO is deemed the right decision, there are emotions to manage. Expecting something to happen that doesn’t pan out, or even simply expecting a higher valuation than is set, can result in employees across the business feeling like failures. “You have teams that have been burning the midnight oil for many months getting ready for the IPO event, and suddenly that event is not there. Be sensitive to that—there is going to be an emotional letdown,” Atchison said. “Pull the teams through it and have them focus on building a great product, taking care of customers, and building a great business.”

Supporting Recently Public Companies

“For a lot of companies, going public is like giving birth,” said Heather Hiles, director at Udemy, Luminary Media, and Black Girls Code, and managing partner at Imminent Equity. “When you actually give birth, that’s a new threshold where hopefully the good news is that the baby has 10 fingers, 10 toes, it’s stable. But now you really have to invest in growing this and turning it into a full-fledged adult who can perform in the world.”

An IPO is not an end point—it is simply the start of a new life and a new level of work for the board and management team. For the record-breaking number of companies that went public last year, this lesson was likely learned at lightning speed.

In an environment such as this, fundamentals are critical. The strength and resilience of the management team, business model, and strategy should be assessed and assured. An attractive long-term value proposition and engaged talent are two other essentials that may help the company withstand this year’s market conditions, according to Doyle.This matters especially when stock markets are down by almost double-digit percentages. For example, though the Nasdaq has since rebounded slightly, it was down approximately 30 percent at one point in May. (As of Oct. 28, the Nasdaq was down about 9 percent year to date.) As reported by Renaissance Capital, by early spring, approximately three-quarters of companies that had IPOs in 2021 were trading below their offer price. Despite this, none of the people interviewed for this article expressed serious concern over the decline.

“Even for companies that might see a dip or some challenges directly after going public, it’s a really good launching experience for the companies that are really, truly ready,” Hiles said.

Adam J. Epstein, founder of Third Creek Advisors, member of the editorial advisory board of the Small-Cap Institute, teaching fellow and mentor for the Nasdaq Entrepreneurial Center, and a former columnist for Directorship magazine, believes reputational risk is not necessarily elevated in such an instance.

“Whether markets are volatile or not, public company board members face reputational risks,” he explained. “Though those risks have historically been inversely proportional to the size of the company, directors overseeing large companies aren’t immune. You could make the case that reputational risk associated with a broken IPO actually decreases in volatile markets because it’s more common. Stock price movement is just one of many ways that public company board members risk reputation impairment; accounting restatements, cyberbreaches, social media flaps, and product recalls are of equal or larger concerns.”

Consistency and follow-through are imperative if you’re on the board or management team of a newly public company. Companies can’t control the stock market or the geopolitical or economic situation. But what they can do is deliver on what was promised to investors, as well as keep talent and compensation packages top of mind to ensure that the workforce stays energized, motivated, and happy. If boards help their companies do that, Hiles believes that there’s no need to worry about the share price rebounding.

“It is incumbent on the directors to keep the sense of stability and consistency, and reassure employees that as long as we are creating real value with our products and services, as long as we continue to bring in more customers and delight them and grow the business with our customers, we are doing all the right things and we will be rewarded for it,” Hiles said. “It’s a matter of time as the market realizes what you’ve done and what numbers you’re putting up, that you know what you’re talking about, you’re consistently growing, and you’re making consistently good decisions given all the changing conditions.”

The Time Is Now—for Some

Still, the list of companies deciding to move forward with their plans to go public goes on. For those that have completed or are planning an IPO this year, the market simply looks different—but by no means is it closed.

“Even with lower valuations, there is less competition for capital,” Doyle explained. “A company that addresses investor demands—in particular the institutional investors—will still attract significant capital, and some investors may be willing to be somewhat more patient in today’s environment compared to prior years, especially for companies that demonstrate strong fundamentals and a solid long-term value proposition.”

AIG’s Corebridge Financial went public in September in the year’s biggest IPO, raising $1.68 billion. The grocery delivery by year-end. And although it did not meet its original estimated midyear IPO date, autonomous driving technology firm Mobileye went public on Oct. 26, 2022. The company was finally valued at $17 billion, down from original hopes late last year of around $50 billion. Over the summer Mobileye’s founder and CEO, Amnon Shashua, said in a letter to employees that “[v]aluation is not the reason to wait. Lack of stability, or high volatility, on the other hand, could have a negative [effect] on the results of any IPO, both on the date of the IPO and going forward.” Nonetheless, the company raised $861 million in the offering with shares priced at $21—slightly above the company’s targeted range, according to reporting by the Wall Street Journal.

In this environment, “blockbuster” IPOs are rare. The companies that are going public now are more likely smaller ones with lower valuations. For reference, the 10 biggest IPOs of 2021 each raised more than $2 billion, according to Statista. Compare that to Corebridge Financial’s $1.68 billion. While Corebridge’s IPO occurred in the second half of this year, in the first half only three raised more than $500 million; two of them (one a SPAC) went public in January, before the full extent of the year’s woes were revealed. Hiles, however, believes pressing forward with IPO plans even now can reap rewards.

“For a lot of smaller companies relative to the IPO marketplace looking to go public, it may bring a whole new set of opportunities for them to do some consolidation, some rolling up, because they [would] have more cash. That could make perfect sense. If they’re thinking long term, as all companies should be, the IPO is the beginning of growth, not the end,” Hiles said. “You should be willing to go through a couple of years of proving yourself in the public space anyway, so you may as well get that going and continue to be able to scale. For a lot of companies, even a very tumultuous stock market can make for a really good time to launch your company at that level, and to take the next steps for your own growth and success.”

Epstein added that if a company truly has high-quality operations, it can have a successful IPO at any point. “On the other end of the quality continuum, there are companies that might have no choice but to pursue IPOs due to contractual provisions in earlier financings,” he said.

To ensure a positive event, boards should help their companies reinforce clear purpose, values, products that meet demand, and growth potential, Doyle said. She suggested that the boards of pre-IPO company should also ensure that their companies demonstrate resiliency, have an innovative and differentiated business model, be reasonable about valuation, do their due diligence about investor appetite, consider all options including private market fundraising and debt raising, and, perhaps most important, be prepared to address the risks, challenges, costs, and rigors of being public.

“The more volatile the markets are, the less operating risk companies must possess to inspire investor confidence. Boards should compare their operating metrics to those publicly traded companies that have best maintained their valuations during the last 18 months,” Epstein said. “For companies that misjudge investor interest in their IPO, the proof will be in the pudding when they meet with prospective investors to test the waters.”

Wherever companies are on their IPO journeys, there is no hidden key to success. The truth is that to experience growth, go public, or even weather fluctuating markets, the basics matter.

“An experienced investment banker once said to me: ‘Great companies treat IPOs like astronauts preparing for a mission. They are equally prepared for liftoff or a scrub,’” Epstein said. ■