For a long time, going public has been a “badge of honor” for numerous startup founders, and a synonym of prestige and validation in most innovation ecosystems. This stands true, even if M&A exits have gradually become more appealing and occur more frequently than public listings.
Since the beginning of 2022, the IPO market has slowed down, due to a variety of factors including rising interest rates and ongoing concerns of a recession. Yet, it is a more recent development that has the potential to prompt founders to reassess their priorities, and posit a much-needed question—Are public equity offerings still worth it?
You might have heard the latest about Elon Musk’s $56 billion pay package, and how, after a lawsuit filed by a Tesla shareholder, was recently voided by a judge. Given Musk’s public profile and status as one of the icons of Silicon Valley and beyond, this news made me wonder whether founders will now think twice before aiming for an IPO, and consider the financial and regulatory consequences and responsibilities that this comes with. Here are three reasons why, from my perspective, an IPO may not be worth it.
Three arguments against an IPO
#1: Trading restrictions
A common constraint entrepreneurs are likely to face after an IPO is the lockup period. During this timeframe, corporate insiders, investors, or employees are prohibited from selling or redeeming their shares.
The length of this lockup period is frequently under dispute. On the one hand, investors and employees prefer shorter periods, as this allows them to cash out early and get liquidity. On the other hand, underwriting banks tend to favor longer timeframes. By preventing insiders from selling their stock, financial institutions mitigate the risk of a drop in the stock price.
While companies might aim to balance this conflict of interests, from my experience, prices usually fall after the lockup period. And even if both the market and the company grow, the difference might not be in your favor.
#2: The company’s valuation becomes heavily dependent on external factors
When a company is private, its market cap is the result of its own merits and achievements. However, once it becomes public, this value will be affected by several factors over which it has little or no control, including macroeconomic factors, industry trends, whether the company is part of an index and how this index performs, and the rating it is given by credit rating agencies.
Even news events surrounding the firm’s competitors have an impact on the stock price. For example, last year, Amazon stock fell over 5% after Alphabet’s earnings report fell short of expectations. Even more recently, Apple shares plunged 4% after a Barclays analyst downgraded the stock rating and lowered its price target from $161 to $160.
#3: Excessive accountability requirements
Once your company is public, everything you do will be subject to public scrutiny. Similarly, the company will be subject to stringent regulations, governing everything from financial reporting to statements made by top management.
As a company representative, you will be obligated to disclose information, including profits and financial statements. Any lack of transparency or conflicts of interest that affect investors’ confidence can trigger stock crashes, damaging your company’s market value.
The bottom line
While an IPO still serves as a milestone that vouches for a company’s success by a large number of independent third parties, going public requires careful consideration. Alternatives such as an M&A deal or staying private might be more in line with a company’s interests.
For instance, if you are looking for liquidity and exit via an acquisition, you might obtain part of the proceeds immediately, even if a fraction of the payment is stretched over time. Sure, there might be cases in which the situation might be different, as you might be paid with shares of the acquiring company. But if your goal is immediate cash, an IPO might not be the solution many tout it to be.
Reporting and disclosure requirements—such as those mandated by the SEC/FCA/FCC, etc—are substantially less strict for private companies. This is important not only because of the “freedom” aspect, but because it allows you to make fast decisions when needed. Especially in today’s fast-paced startup world, swift execution is key, and public companies could be hindered by bureaucracy. All in all, not all that glitters is gold, and before aiming to list your firm in the public markets, it is worthwhile to make sure that it is really what you need.
This article is from an unpaid external contributor. It does not represent Benzinga’s reporting and has not been edited for content or accuracy.
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