Paul Kedrosky made a wish for the new year: "Remember IPOs? Way back when your parents were messing about with technology stocks in the late 1990s, pretty much every company that could went public, mostly via Nasdaq IPOs.... I’m wagering we’re about to enter a similar period in 2010."
He was hoping for a Walter Sobchak moment:
Has the whole world gone crazy? Am I the only one around here who gives a shit about the rules? Mark it zero!
- The Big Lebowski (1998)
The Next Netscape
The dot-com boom was sparked by Netscape's IPO, just as Apple's IPO launched the PC Bubble in the early '80s (complete with companies with goofy names like Kentucky Fried Computers).
Will we have our Netscape Moment this year? It is now looking less likely.
Today's Netscapes are companies like Skype, Twitter, Facebook, Zynga and (maybe) Yelp - winners in social media. TechCrunch's Erick Schonfeld gives his top 10 IPO candidates. Yet it seems rather than rush for glory in the public markets, these companies are inclined instead to take in private equity and stay private. Facebook for example took a big slug from a Russian PE firm, and took itself out of the IPO sweepstakes for now.
Instead of the hot new companies, we are seeing a lot of '90s retreads finally getting their chance to exit, such as the indomitable Force 10, which has more than $200M VC financing in it, and no buyers. Their only exit left is the unsuspecting public! We are also seeing cleantech names, like Tesla, line up to go out - companies which need tons of capital to grow. (Disclosure - I have an indirect VC interest in Tesla.)
Companies with hot growth prospects in a new sector can be a Netscape. Google got out, and at the time a lot of VCs thought it would be the new Netscape. No dice. Filings ratcheted up from 47 by Aug 2003 to 236 by Aug 2004, but few got out. Google was really a second generation search firm, a category hot in the prior IPO period, not the start of a new trend.
Retreads will not make an IPO craze. Cleantech may have the allure and cache to do so, but so many of them are long-term science projects which require huge capital to get going (think - solar farms in the desert). A bunch of solar firms went public in 2006, and a lithium-ion nanotech battery maker, A123, went public on late 2009 (cleantech and nanotech in one company!), but no huge wave of cleantech IPOs has emerged, yet.
Killing the Golden Goose
The VC industry funds around 1,000 new companies a year, and although many get bought and others fade away, the overhang of venture-backed companies is hovering around 10K and stretch back to companies started in the '90s. While most of them exit via m&a, IPOs drive up valuations and excitement for the whole industry.
Yesterday the WSJ ran a piece on the shakeout in VC Funds: funding is down from $41B in 2007 and $29B in 2008 to only $14B last year. The number of new funds is also down, from over 200 in 2007 and 2008 to 125 last year. The number of venture firms that mange these funds is down more than 20%, from over 1,000 in 2005 to fewer than 800 in 2009. Many of the still-extant funds are not going to raise again, and are simply working down their prior funds (a typical fund last 10 years).
Are we slowing starving the golden goose of US technological leadership? M&A without the price umbrella of IPOs simply will not sustain the VC industry. Nor will it sustain US innovation. VCs are beginning to switch to safer bets with quicker exits, while China still forges ahead! Is this what we want?
The prior two years were the worst for IPOs since 1974-5. There were only 5 venture-backed IPOs in Q4, and only 13 for the whole year. Even in 2007 we had 86, and back in the after-glow of Google in 2004 we had 94:
The VC industry has just had its worst decade since it really got going 30 years ago, after EIRSA allowed pension funds to flow some fiduciary money into alternative investment vehicles like VC and PE (private equity). The industry is bleeding, and needs the IPOs back.
This Time It Will Be Different
There was a lot of hope that things would change in 2010. The IPO seasons are Spring and Fall, as things tend to slow down over the Summer and during the Winter holidays. A few IPOs got out in the Spring of 2009, after the Hope Rally took off, and a few more got out in the Fall. They performed pretty well in the after-market, an indication of the attractiveness of the new public companies to investors, and hope was high as as recently as January for a much better 2010. Here is a list of how they did:
A123 Systems Inc. - Up 45% overall; up 38% vs. Nasdaq
SolarWinds Inc. - Up 76% overall; up 36% vs. Nasdaq
Fortinet Inc. - Up 38% overall; up 35% vs. Nasdaq
LogMeIn Inc. - Up 25% overall; up 2% vs. Nasdaq
OpenTable Inc. - Up 32% overall; up 0% vs. Nasdaq
Ancestry.com Inc. - Up 3% overall; down 5% vs. Nasdaq
Medidata Solutions Inc. - Up 8% overall; down 15% vs. Nasdaq
Echo Global Logistics Inc. - Down 11% overall; down 19% vs. Nasdaq
Omeros Corp. - Down 25% overall; down 29% vs. Nasdaq
Sadly, it is a pretty short list. A much longer list have lined up this year to go out - over 9x as many. There are a number of really good venture-backed companies - here is a list of the top 50. Not that many of these are lined up, however. Bankers went to the major VC firms last year and asked them to pony up their tired, their poor, and their hungry; and as a consequence many of the IPO candidates are like Force 10 or those capital-intensive cleantech deals: they need to get out in order to keep going.
If the bankers push the dogs of the bunch, a promising reopening of the IPO window could close shut, fast.
As the Spring IPO season was about to open, the signs pointed to an IPO thaw. You can see the optimism in this live discussion transcript. We have now had the first bunch go on the road and get out. So far the first ones out do not look that encouraging:
- I have a small indirect interest in Anthera, and followed it with interest. Although we should not generalize from one example, this one is telling: it started the roadshow expecting to price as high as $13-15, but in the end priced at $7, a 50% haircut. Ok, that is a pharma deal, and they walk to a different rhythm than high-flying tech deals.
- A high-profile Internet marketing deal, QuinStreet, went on the road with a $17-19 price range. It priced at $15, a bit below the range - not as bad as Anthera, but not that good either. Ok, it is a '90s retread (it was started in 1999), and not one of the hot new social media deals.
- A PE-backed deal, Graham Packaging, also had to drop price from $16 to $10 to get out. Other potential PE-backed IPOs have been pulled. So the problem is not just for VC-backed IPOs, but across the board.
- Scan the full list of recent IPOs, their pricing and after-market performance here - not so good.
If we have to make excuses for weak performance, the IPO market is not there yet. While the bankers are forging ahead, some IPOs are being postponed, and others decide to sell out instead. Maybe the IPO groundhog saw his shadow, and we have to wait for another six more weeks of Winter before the market thaws.
The Next IPO Boom
IPOs can happen all the time, but the happy days come about every decade. We had tech IPO blips in the early '60s, early '70s, early '80s, and late '90s. The PC Bubble of 1980-83 and the Internet Bubble of 1995-2000 were particularly powerful, and made the modern VC industry what it is - or was.
I had two companies in registration in 1983, during my first stint in venture capital, and one got out in June but the other failed to go in July. The IPO window shut real fast after Fortune Systems went out in a big offering, and promptly fizzled.
I pitched a company on the road in October 1999 at the height of dot-com fever, and did a secondary for it in April 2000 just as the Nasdaq fell 500 points in one day - and came all the way back. We were lucky to get it out. I was on the board of the last large IPO of the era, Genuity, a $1.9B offering in June 2000. In July 2000, you couldn't get anything out. The window had closed just as fast as in '83.
We had a small IPO bubblet in 1986, when a number of quality offerings got out (Microsoft, Oracle, Sun), and a few more got out such as Dell as late as 1988 before interest in IPOs flagged. Until Netscape, a 12- year hiatus measured from bubble-end ('83) to bubble start ('95). Does this put the next IPO window out to 2012? Or after?
Tech stocks tend to lead out of a recession. When the market returns to risk, it will seek high yields. Fast growing tech stocks promising much higher yields than Treasuries. We had double-digit interest rates and inflation in 1980, and went through a double-dip recession, and yet the PC IPOs were hot. When Netscape went out in 1995, we were coming off a perceived slow patch.
Perhaps when we finally emerge from the Great Recession, tech IPOs will lead the way. We have signs of recovery right now, but not the rush into higher risk investments, at least not in the US. Capital continues to flow out, to emerging markets, and Chinese tech stocks. This indicates to me that we need to return to a more normal investment environment in the US before tech IPOs can return in force. Right now we still have continued reflation in monetary policy (ZIRP - the zero interest rate policy) and fiscal stimulus, but still falling private investment and commercial loans.
Put simply, we need rates to rise and stimulus to abate before the IPOs return in a new Springtime for Venture. I would say 2012 at the earliest, if not 2014.
I hope I am wrong and it comes back sooner.
A good place to track the IPO market is Renaissance Capital's IPO Watch site.