Tech IPOs are hot, but for the generation's best companies, it's all about private markets
As 2014 came to a close, we looked at how it was a strong year for tech IPOs, but maybe not as hot as it appeared when compared to a surge in late-stage private financings. After digging deeper into historical data provided by Mattermark and Renaissance Capital, we've found more evidence of a shift from a public to private market focus in the tech sector.
As we noted earlier, Renaissance, an IPO research and ETF firm, counted 55 companies in the tech sector that went public on US exchanges in 2014. Together, they raised $32 billion. But 67 cents of every dollar raised came from a single IPO – Alibaba – leaving the tech IPO markets looking far less greedy last year than during the dot-com boom.
But since 2014 was a year when many tech companies sought private megarounds (defined as rounds of $100 million or more) we looked at IPOs that raised at least that much. According to Renaissance, there were 33 such offerings, one more than in 2007 but 51 fewer than the peak year of 2000.
One of the more extreme characteristics of the dot-com bubble was the first-day pop in prices. Stocks of large IPOs surged an average 106 percent on their first trading day in 2000 and 138 percent in 1999. In 2014, the first-day pop averaged just 30 percent, below the levels of even a decade ago, well after the bubble had popped. So, while the engineered first-day rally is still a mainstay of tech IPOs, it's not nearly as extreme as it was in the bubble years.
There is one worrying aspect: Investors are growing more tolerant of larger tech companies going public while still in the red. During the late-aughts financial crisis, investors only tolerated a few big tech IPOs – 12 in 2009 and only one in 2008 – all of them profitable. Last year, 64 percent of large IPOs debuted with net losses, the highest ratio since 2000, when 74 percent were losing money.
In 2014, the median net loss of large tech IPOs was $10.5 million, the largest median loss since – that's right – 2000. Bulls will point out that the tech sector has matured since the bubble. Many of the companies going public these days have less speculative business models than the dot-com years, operating in markets more established with consumers and enterprises. And often revenues are far larger, despite a meaningful lack of profits.
Even so, investing in companies that offer promise rather than proof of profitability is always a risky proposition. Their stocks are more vulnerable if the economy slows down. And the fragile economies in many parts of the world are causing some forecasters to be guarded if not bearish heading into 2015.
If the tech IPO market isn't seeing a surge of activity, the market for private financing is. According to data provided by Mattermark, a deal intelligence platform, the number of private financing rounds that reached or surpassed $100 million more than doubled last year – while the amount raised more than tripled.
There were 128 private investment megarounds in the tech sector in 2014 totaling $31 billion in capital. (This figure excludes healthcare, biotech, restaurants, energy and cleantech, and non-tech finance companies.) That's roughly equal to the $32 billion raised by all tech IPOs including Alibaba, and marks roughly a 150 percent increase in deals and a 200 percent increase deal value over 2013.
A quick caveat here: These public and private financings aren't directly comparable. Private rounds are as a rule much more frequent than public offerings, and different research outfits have different definitions of a tech company. Also, private market valuations are often calculated differently (and more leniently, or hopefully) than those in the public markets. But the data does show a clear, overall shift in the flow of capital into private markets.
Nearly half ($14 billion) of the money raised in private megarounds came from only 13 companies, each of which raised at least a half a billion dollars in 2014. The most sought-after private companies are often choosing to remain private today, while the financial apparatus in Silicon Valley has evolved to help channel in money that would otherwise be investing in public markets.
The two largest fundraisers – Uber and Flipkart – engaged in multiple financing rounds, including large rounds in the final weeks of 2014. Only six of the 13 companies were based in the US, with five more in China and Hong Kong and two based in India. Outside of ecommerce (an emerging business in India and China), the companies were involved in a diverse set of areas.
Interestingly, $7 billion of private money was raised in December alone – nearly a quarter of the year's total. That may indicate some late rush to close the books before the calendar year ended (or the market cools), or it may indicate that the surge of private financing could be accelerating as 2015 begins.
Technology investing, be it in the public or private markets, is an outlier-driven business. The majority of companies that go public will do so without ever having raised $100 million in a single round. Moreover, most that reach such a heady levels will need to offer investors the transparency and liquidity of public markets. But for the very best companies of the generation, the rules have changed.
With elite companies putting off the glare of public market scrutiny longer than ever, the implications for investors are equally real. Those looking for a piece of the highest growth companies must be willing to compromise on where and under what terms those investments occur. It will be several more years before we have exit data on these private market megafundraisers, but the opaque and illiquid nature of these investments means that outcomes will more closely mirror the binary nature of growth venture deals than the IPOs they're replacing.
Welcome to the new normal.