Twilio aside, here's why that big IPO rebound will likely wait until 2017
After several false starts interspersed between sometimes long stretches of not starting at all, the tech IPO machine is trying to start itself again.
And as has happened before, there are plenty of reasons to think the market for tech IPOs will rebound. The supply side of the market could strengthen because privately held unicorns are finding it harder to raise money in private rounds or to exit through acquisitions. Meanwhile, the demand side – where much of the recent blockage seems to have collected – seems to be increasing as well, thanks to a series of IPOs that have rallied since their debuts.
Thus bullish sentiment has been edging higher for a few weeks, following months of reports about how the IPO market is (pick a term) tepid/lackluster/anemic/in a drought. The turning point came after the handful of tech companies that went public in 2016 showed they could hold their head above water, or even swim with some promising skill. Of the year's seven tech IPO's to date, all are up from their offering price.
LINE, the Japanese messaging app that was the biggest tech IPO since Alibaba, is up 27 percent from its offering price. Other companies with less visible brands and a cloud-based business in the enterprise market, have done much better: Talend, a vendor of big-data software, is up 42 percent; Twilio, which offers communications tools in a cloud-based platform, is up 259 percent; and Acacia, which makes optical-networking equipment, is up 394 percent thanks to an inaugural earnings report that exceeded expectations.
After a few years when it seemed like high-profile IPOs like Twitter and Lending Club would emerge only to fall below their offering price, this is welcome news. The catch, to the degree that there is a catch, is that not all IPOs are priced equally. One way the investment banks that underwrite IPOs can stir up investor interest in IPOs is to light some kindling in the form of smaller offerings that are priced modestly enough to appear attractive. Outside of LINE, none of 2016's tech IPOs have raised more than $150 million. Often, the number of shares sold is small enough that the company can sell a second offering later, ideally at a higher price. And if enough small IPOs can boast of impressive post-IPO gains, it generates demand for more IPOs, maybe larger companies, maybe – if demand gets hot enough - at less attractive pricings.
It's interesting that these strong post-IPO performances of the class of 2016 are recently accompanied by a series of news stories, all quoting investment bankers (some quoting unnamed investment bankers) about a bullish outlook for the IPO market. Earlier this month, JP Morgan's Liz Myers appeared on Bloomberg TV and said the company has more than 20 global IPOs lined up in September alone. It wasn't clear from Myer's comments how many of them will be listed on US exchanges, but in general the period from September through November tends to be a busy one. In 2013, 2014, and 2015, September saw, respectively, 21, 18, and 7 IPOs in the US, according to Renaissance Capital.
On Friday, more encouraging evidence appeared after Renaissance noted that “tech IPO activity appears poised to pick up in the fall,” citing four tech companies that filed for IPOs in the previous week, including enterprise companies Everbridge and Apptio. Others may have filed confidentially under the JOBS Act and are yet to be announced. And so far this week, more stories appeared citing investment bankers bullishness that the market is turning around. On Business Insider, some pointed out that the tens of billions of dollars worth of tech M&A in recent months have left fund managers flush with cash to re-invest in tech. And the Journal said bankers are “preaching 'go now'” to certain companies that have been ready for a while.
So supply and demand both seem to be aligning to bring more companies into the public market. And investment banks are doing what they can to fan the flames on the kindling. But there are a few things that could keep this bullish scenario from happening this year, or at the least push it into 2017. One is the lingering uncertainty over the US election. Between the election and the holiday season, when IPO activity shuts down, there is a narrow window. Another is the prospect that the Fed raises interest rates, triggering a correction in the stock market that could dampen interest in new offerings. And then there is the risk in the high valuations of the rallying class of 2016: Acacia has a PE ratio of 75 and a price-to-sales ratio of 12. Twilio has a price-to-sales ratio of 20. That leaves a lot of room on the downside should future earnings disappoint.
And then there is the caution in the words of investment bankers themselves. JP Morgan's Myers, for example, used the term “trajectory toward normalization” - a jargony way of saying we'll get back to the flow of recent years. Which seems oddly underwhelming with the stock market at record highs, and with so much pent-up demand supposedly in the pipeline. Maybe it's like California itself, after a long and dreary drought, parts of the state had good year of rain. Rainfall for the past year in San Francisco, for example, is at 99 percent of normal. And yet many people are bracing for the drought to return in coming years.