Venture capitalists are advising start-ups to postpone plans to go public in the US until interest rates have plateaued, after choppy debuts for Arm and Instacart damped hopes for a rush of new tech listings.
Online grocery delivery company Instacart, whose initial public offering on September 19 was seen as a key barometer for other private tech companies, ended the month below its $30 listing price, despite surging as much as 40 per cent as trading began.
Arm, the SoftBank-backed chip designer, fluctuated above and below its $51 listing price in the two weeks following its IPO but ended the month almost 5 per cent above it. Marketing automation software company Klaviyo is the best performer of the three, up 15 per cent on its IPO price.
All three companies enjoyed bright starts on the public markets, but those were dimmed by the Federal Reserve indicating on September 20 — the day of Klaviyo’s debut — that it would support another interest rate rise this year and fewer cuts than expected in 2024.
Turbulent trading conditions throughout September have frustrated Silicon Valley investors who had hoped the month’s listings would open the door to dozens more private tech companies going public. Many start-ups had delayed their IPO plans after the market turned sour in 2021.
“In our portfolio we would advise: unless you really need to, hold back,” said Mike Volpi, a general partner at venture capital firm Index Ventures. “The market has been rough in the past few weeks . . . Unless you need to go out, I’d wait until the second half of next year.”
With public listings remaining risky, the start-ups most likely to IPO next were “the ones forced to by factors beyond the traditional goals of raising growth capital or providing liquidity”, said Jason Greenberg, co-head of global technology, media and telecoms investment banking at Jefferies.
Private markets data company PitchBook estimates that a backlog of almost 80 IPO candidates has built up over the past year, a period in which public markets have soured on tech start-ups. But some investors have tried to take a longer-term view.
“Everyone thought IPOs were dead — they aren’t,” said Paul Kwan, a managing director at venture firm General Catalyst and the former head of west coast tech banking at Morgan Stanley. September’s trio of listings “wasn’t some massive turning point”, he added.
Interest rate rises are particularly painful for unprofitable private start-ups, which are valued on the basis of their future cash flow. Until rates stabilised, Kwan said, there was unlikely to be a resurgence in IPOs. He expected an increase in mergers and acquisitions among private companies over the next six months.
Some companies might be forced to list sooner rather than later because they needed fresh capital to survive or grow — “not a good IPO story”, warned Greenberg — or to pay tax bills associated with employee stock units’ vesting.
In recent years, many private Silicon Valley companies — including Instacart, Klaviyo and payments group Stripe — have offered staff “restricted stock units” that allow them to cash in when a company is acquired or goes public.
In March, Stripe raised more than $6.5bn in a private stock sale, in part to cover the employee tax liabilities associated with those RSUs vesting. Instacart would be using “effectively all” of the roughly $600mn in proceeds from its IPO to settle costs associated with RSUs vesting, according to a person with knowledge of the matter and the company’s S1.
Klaviyo is using almost $60mn of the proceeds of its IPO to settle outstanding RSUs.
A third factor driving start-ups to the public market is their investors’ need for liquidity, according to Don Butler, managing director at venture fund Thomvest.
Venture firms invest on a longer-term basis than private equity or public investors, with funds typically operating on a 10-year lifecycle. The return on investment from such funds is a proof point when raising their next fund from backers, who typically include pension funds, endowments and other institutional investors.
But venture capital firms need start-ups to IPO or find another exit, such as a sale, in order to distribute returns to their investors. Some would accept that their companies were not as valuable as once thought if that meant getting a deal done, said Butler.
Instacart, Klaviyo and Arm were evidence that “the IPO window is open — even if a crack by historical standards”, said Peter Hébert, co-founder of venture firm Lux Capital.
“While public investors are far more discerning than in recent years, mature companies with attractive growth prospects can raise public money if they so desire,” said Hébert.
Klaviyo provides a more hopeful signal to other prospective IPO candidates serving business customers, rather than consumers. The marketing technology company continued to grow rapidly through the pandemic while others were cutting back and is trading close to its peak private valuation of $9.5bn, set in 2021.
So-called “software as a service” businesses such as Klaviyo tend to offer public-market investors more predictable revenues, as customers pay a monthly subscription, than consumer-facing companies like Instacart.
However, according to Greenberg, the prospects for even the strongest IPO candidates are unlikely to be clear until interest rates have definitively plateaued and the economic outlook is more settled.
“Is the window open? 100 per cent,” he said. “Do I think listings will take off? No. Not for another six months.”