Private vs. Public Investors on IPOs

There seems to have been a trend this year in the IPO market. It usually has gone along the lines of:

1. Private company raises a few rounds of funding and has a high valuation
2. Private company submits S-1 filings to the SEC
3. Private company enlists the help of an investment bank or two to help underwrite the IPO offering
4. Private company wows investors, which in turn raises the IPO price
5. Private company goes public, everybody from founders to employees to private investors celebrate
6. 3 months later, public company is no longer trading at the same level as its IPO price, public company misses quarterly expectations, stock begins to slide more

This trend at its core can be chalked up to the differences in thinking of a private investor and a public investor. It seems to have exposed the thought that private investors value growth and market share over profitability, which I don’t totally disagree with. However, as soon as the private company goes public, things begin to go awry. Public investors want to see profitability, and even one quarterly report of missed expectations is enough to swing the stock the other way.

In addition to this, the actual valuation of a private company is always something worthy of a debate. Even though it is difficult to accurately measure the value of the company (basics tend to be some sort of multiplier of revenue or number of users), this doesn’t always tell the full story. As the company raises additional rounds of financing, what is really happening is a ballooning of the value of the company based on financials that matter more about the rate at which the company is growing and not the speed at which its burn rate is increasing. Look no further than WeWork, which is losing 28 times more money per customer than what Uber is losing per rider. It has played a big role in the rapid decrease in the valuation and eventually yanking of its IPO (not to mention the fragmented leadership and general hysteria).

Another reason for the discrepancy between the way public and private investors operate may lie within the actual IPO process itself. When the IPO is successful (meaning the price at close is higher than when the bell rings on the first day), investment bankers win. When the IPO doesn’t go according to plan, investment bankers win. This is because of the cut they get by helping the company go public rather than going the Direct Listing route. It’s become so bad that venture capitalists are meeting in Silicon Valley to talk about reshaping this process without investment bankers. Also, if the company does feel pressure from its investors to come up with a liquidation event, that isn’t going to help either. It’s like making a baby walk before it can crawl.

Eventually the thinking between public and private investors will realign. The whole WeWork example is a big reason why. As we’ve seen with the recent IPOs this year (BeyondMeat withholding), expectations seem to differ pre- and post-IPO. Hopefully future companies planning to go public are aware of this and understand the risks, and not just the rewards, of going public.