Reflecting on almost 30 years of backing entrepreneurs with venture and growth equity, and particularly in light of all the attention focused on the SNAP (NYSE:SNAP) initial public offering, there is one aspiration that I rarely hear management and founders discuss anymore….going public.
25+ years ago, almost every management presentation SSM reviewed listed an IPO as a liquidity option, if not the number one option. Grow your business, go public and watch your stock increase in value. That was the playbook; or rather, it was the founder’s dream to become the next Federal Express, and enjoy the “prestige” associated with having a successful IPO.
In the late 1980’s and early 1990’s a $20 million IPO for a $100 million market cap company was an everyday event. Investment bankers at regional brokerage companies focused on taking public small cap companies in their region, or in an industry where they had expertise. Merger and Acquisition bankers took a backseat compared to the corporate finance/IPO teams.
The trend accelerated with the technology and internet bubble of 1995-2000, when almost any company with a corporate name ending in “Technology” or “.com” could go public. Earnings, who needs earnings? For that matter - revenue?... didn’t really need that either. Financial metrics were an afterthought. What mattered was a cool name and lots of “eyeballs.” The dollars got larger and the valuations were crazy. It was all great…until it wasn’t. The Nasdaq peaked at 5,048 in March 2000, and the IPO bubble burst spectacularly along with the stock market in the subsequent months and years. It took 15 years for the Nasdaq to break 5000 again.
But an interesting thing also happened along this route. The venture capital and private equity community grew up, both literally and figuratively. Literally, because the amount of capital available from private funds grew by multiples from the early 1980’s through today. And figuratively because the professionals in the industry got better at our craft. (I would argue mainly due to the painful experiences of the dot com bust in 2000, and the recessions of 2000 and 2009.) As the industry grew and matured, private capital became increasingly available to support all stages of a company’s maturation, from early stage venture to late stage growth through mega buyouts, and became a, if not “the,” primary source of liquidity for founders and investors.
There were many reasons for the growth in private capital, not the least of which being great returns in the industry. But in hindsight it is also clear that the venture and private equity industry was growing for another reason. Private capital was replacing the small cap IPO as both source of capital and path to liquidity. It was filling the gap caused by an ever-increasing and sometimes imaginary “bar” that a company needed to cross to become public.
Why did this happen? First, the costs and complexity of an IPO and the expense of being a public company skyrocketed as new regulations took effect, namely from Sarbanes-Oxley. Estimates vary, but the expenses related to being public for even the smallest company today likely exceed $3.0 million annually. Second, following the dot com, bust institutional investors began to demand greater liquidity in the IPO public stocks they purchased, which in turn continued to raise the market caps (and float) necessary to become public. The largest and most active buyers of IPO’s today rarely consider a sub $500 million or (more realistically) $1.0 billion market cap company. The net is that the small cap IPO market has changed dramatically, particularly since the tech bubble bust in 2000.
SSM has realized on 7 of our 38 company exits through an IPO, but only one in the last 10 years. Today, when we and our entrepreneurial partners begin discussing liquidity options the first call we make is to our M&A banker friends. Of course, this is partly because few of our companies at SSM (given our strategy) are near valuations necessary to consider a viable IPO. But it is also because we know that the liquidity and efficiency of the private markets today will produce a valuation that compares favorably to how our companies would be valued as small cap public companies, and in many cases the valuation might even be higher. And finally, as institutional investors, we certainly prefer receiving cash for our investment versus owning stock in a young public company that we later need to find a way to sell or distribute to our LPs.
So today, when we review a plan or hear a management presentation, the liquidity option discussed most often is a sale to private equity (or industry buyer). The IPO route is rarely mentioned, and appropriately so. Although most venture or private equity investors have always preferred a sale to an IPO, I find it interesting, and frankly, refreshing that this preference has worked its way into the entrepreneurial mindset. The badge of honor today is not “taking my company public,” but rather “grow my company quickly and sell it.” Entrepreneurs today are more than okay with having the words “founded and sold” in their bio, and even better if they have started and sold more than one company. They have learned that great companies don’t need to become public to achieve a “market value.” The private equity industry today can and will pay for that value, providing the liquidity and capital necessary to fund a growing company for a long, long time.
Wilson Orr is a managing partner at SSM Partners, a private growth equity investment firm. He is also the Chairman of Kirkland’s Inc. (NASDAQ:KIRK), a former SSM portfolio company and current small cap public company.
About SSM Partners. SSM has partnered with talented entrepreneurs for more than 25 years. The growth equity firm invests in rapidly growing companies that have proven and differentiated software, technology, or healthcare business models. Starting with a relationship built on trust, SSM offers its entrepreneur-partners a thorough understanding of the growth company lifecycle and a collaborative approach to building great businesses. Learn more at www.ssmpartners.com.