Where Are All the Tech IPOs in 2011? Part One.
2011 started off as a year anxiously anticipated by investors and tech-watchers alike: the tech IPO market would return. Typical of the sentiment was the DealBook post on Dec 30, 2010: Is 2011 the Year of the Blockbuster Tech I.P.O.?
Several positive indicators underscored that sentiment: rebounding stock market, low interest rates and a poor real estate market suggesting that growth stocks could be attractive investments, several big name private companies were raising institutional funds at billion dollar valuations, and anecdotally the local law firms all spoke to the resurgence in their S-1 filing activity and often referred to a healthy “IPO pipeline”. So confidence in a tech IPO resurgence was high. But with a third of the year gone, there have been few notable IPOs and while activity is up over 2010, we’ re not seeing the kind of breakthrough IPO activity including the big name consumer internet players that most had expected. What happened?
A little VC history – the 80’s and 90’s
In the glory years of venture capital which led up to the dot bomb bubble, typical VC backed tech companies were able to reach successful liquidity events in 4 – 6 years. Today, that number is much higher, if it ever comes at all.
As part of this change, the definition of a successful liquidity event shifted from IPOs to M&A because there has been no significant public appetite for new tech company offerings for over a decade. What caused this, and will it improve?
In the early 1980’s, there was a rash of VC backed IPO’s, and most VC’s felt it was a natural occurrence to have one of their companies achieve an initial public offering, providing liquidity and large returns to the investors in the companies. By the mid to late 1980’s the IPO market had gotten a little cold, and there were significantly fewer IPO’s in the second half of the decade compared to the first half.
By the early 1990’s VC’s became more stringent about their investment opportunities, and focused on fewer companies with larger amounts of venture capital required. VCs looked at their portfolio and targeted a successful IPO with about 1 out of 5 portfolio investments. That one would be enough to more than outweigh the other 4 unsuccessful ventures, and still provide significant returns.
As the decade of the 1990’s progressed, many technology models (e.g. fabless semiconductors) had matured to the point where capital efficiency was lost. Without capital efficiency, VC’s could not rely on the returns they had become accustomed to, and began to look for other, more capital efficient investments. Enter the dot.com bubble.
The dot com phenomenon
By the late 90’s VC’s began to see very capital efficient businesses that appeared to grow out of nothing into companies, where success was measured in large part on “eyeballs” and not actual revenue and profitability. They believed that revenue and ultimately, profit, should follow the growth in “eyeballs”. We all know how this story ended in 2001. But in the intervening years, there were hundreds of companies which went through an IPO process, only to go out of business a year or two later.
Exacerbating the huge number of failed dot.com companies were companies like ENRON, who bilked their shareholders out of fortunes. So, on top of the public being worried about large scale fraud such as ENRON, the public had to deal with all the speculative investments that were now going out of business. So, enter the governmental regulations from Congress and the Securities and Exchange Commission. The Sarbanes Oxley legislation in 2001 was to overhaul what public companies had to do to earn the trust of the investors again. And the price tag to earn this trust was very high.
Cost of being public exploded
The costs of being a public company, complying with all of the regulations and reporting requirements, rose to several million dollars per year! How many early stage tech companies can afford that much cost coming right out of earnings in their formative years? So, by 2009, there were fewer than a dozen VC backed tech IPO’s in the entire year. And 2010 wasn’t much better. The prediction for 2011 is still better than 2010, but nothing like the glory years leading up to the dot.com bubble.
So, the issue of the cost of being a public company together with the lingering doubts in the mind of individual and institutional buyers has continued to depress the market for public offerings. Yet it is generally accepted wisdom that there are a several well known companies rumored to be teed up for an IPO and, if successful, might well reignite the IPO fever which we saw in the 80’s and 90’s. Web 2.0+ companies like LinkedIn, Facebook, Zynga, and Groupon all have proven profitable business models which can sustain a public company. Moreover their valuations are reportedly all in the billions. Only LinkedIn seems poised and ready to go public. The other big names, and many others, have not gone out and may not in 2011—how come? What’s the hold-up? My next post will examine the reasons these big names have not taken the big leap.
Rich Brenner is Founder and CEO of The Brenner Group, one of Silicon Valley’s premier professional services firms. Rich is a veteran executive, entrepreneur, investor, board member, and philanthropist.
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