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Tech Stocks

Private Capital, Unicorns and IPOs

By Jason R. Koepke, on Jan. 27, 2016

Some analysts argue that 2016 will be a blowout year for initial public offerings (IPO) in the tech sector, in part because activity languished in 2015. According to their logic, this lack of deal flow must have created a backlog of companies that are primed to go public.

At the same time, growing economic uncertainty and our outlook for a bear-market correction this year suggest that the bumper crop of tech IPOs could be deferred. Against this backdrop, analyzing the IPO environment may strike you as a waste of time; however, the evolving role of private capital in the tech space has important implications for the timing and characteristics of future public offerings.

A Step Back

Despite analyzing the same data sets, analysts have reached vastly different conclusions about whether 2016 will be a busy year for tech IPOs or a bust.

The number of tech IPOs announced last year (35) declined by about a third relative to activity in 2014 (53). Either a backlog of companies is chomping at the bit to go public this year, or economic uncertainty will translate into another fallow year for IPOs.

Among the 10 sectors, only last year’s crop of financial IPOs delivered a superior average return to the class of 2014’s performance. IPOs in the tech sector posted the second-highest initial return (17 percent), but many of these debutants evidently crashed to earth; on average, these stocks gave up 2 percent of their value on the year.

Last year’s subpar equity returns may give some tech companies second thoughts about going public, potentially winnowing the field for 2016.

And the public exchanges also compete with opportunities in the private market. Several institutions own equity interests in prominent tech start-ups that have yet to go public; valuations of these holdings appear in various publicly available filings.

For example, Fidelity Investments reported the following markdowns in December 2015:

  • Dropbox: Haircut depends on fundraising round;
  • Snapchat: About 15 percent below the asset manager’s entry price; and
  • Zenefits: A 44 percent decline in estimated value relative to the initial purchase price.

How you interpret these write-downs is a matter of perspective. Some view these refreshed valuations as a sign that Silicon Valley isn’t ready to hit Wall Street; others assert that the private market’s declining confidence in these investments could force a slew of companies to seek financing on the public market.

What about the population of so-called unicorns, or private start-ups that have reached valuations of more than $1 billion? More than 20 companies reached unicorn status in the second quarter of 2015 and the third quarter of 2015, while only 12 outfits joined this elite group in the fourth quarter.

Does this trend suggest that late-stage companies are failing to achieve sufficient exit velocity? Or have investors focused on preparing the next stage for existing unicorns instead of nurturing new ones?

More Context

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