What Arm and Instacart say about the coming IPO wave

Tech bosses have long sought to disrupt the initial public offering (IPO). They bristle at the thought of the high fees collected by spreadsheet-savvy investment bankers for flogging their vision, at the alchemical process of divvying up shares to new investors and at the money left on the table when the price of a company’s shares soars as soon as they begin trading on an exchange. Many plans have been hatched to improve the process, with varying degrees of success. When going public in 2004 Google botched a “Dutch” auction for its shares, which started with the highest bid and worked downwards, rather than upwards, to a price that matches the supply of shares to investors’ demand. As a final insult to the formalities of the normal IPO process, an interview with the search giant’s founders was published, of all places, in Playboy magazine, and of all times, during the supposedly “quiet period” in the run-up to their company’s stockmarket debut.

Little of this bravado was on display on September 19th, when Instacart was welcomed on New York’s Nasdaq exchange. The grocery-delivery firm is one of the latest to ring the bell after an almost two-year drought in IPO activity. Instacart sold its shares for $30 a pop, the top of a price range that had been revised higher in the days before its listing. Their price closed a further 12% above that after the first day of trading, giving the firm a market value of $11bn. That was the second strong debut in as many weeks. On September 14th Arm’s share price climbed by 25% after its Japanese owner, SoftBank, floated around 10% of the chip designer’s stock on the Nasdaq.

On the surface, Arm and Instacart look rather different. Instacart’s market capitalisation is less than a quarter that of Arm. Its business of connecting shoppers with people who buy and ferry their groceries looks less exciting than chipmaking, an industry at the heart of the artificial-intelligence (AI) revolution. Yet both firms are, in various ways, indicative of what to expect from the gathering wave of public listings. This is likely to be less audacious than the last bonanza in 2021. And that may be for the better.

Although Instacart’s first-day pop was mostly undone the next day, the fact that the share price did not sink below the offer price may inspire confidence in other startups. Plenty are looking for inspiration. According to data from PitchBook, around half of the 83 unlisted American firms that were first valued at more than $1bn in 2019 have either gone public, gone bankrupt or gone on sale. For the significantly larger class of 2021, composed of nearly 360 such “unicorns”, the share drops to 6%. Having missed out on the listing boom of 2020-21, many may now be ready to trade in the relative quietude of private-company life for the drudgery of quarterly earnings calls, not least to provide liquidity for their shareholders, including stock-option-holding employees.

Many investors are ready to back them but, in contrast to the go-go years, not unconditionally. For a start, hand-on-heart promises of future growth count for less in an era of high interest rates than profits in the here and now. According to Goldman Sachs, a bank, nearly half of the class of 2020-21 failed to post even one profitable quarter within two years of listing. Emphasis on profitability in turn favours more mature companies. Data collected by Jay Ritter of the University of Florida show that the share of firms that were lossmaking before listing fell from 81% in 2000 to less than half in the subsequent three years, after the dotcom bubble burst. In that period the median age of a listing firm rose from six years to more than ten. Few fresh listers are quite as mature as Birkenstock, a nearly 250-year-old German sandal-maker about to list in New York. But many are at least adolescent. Klaviyo, which helps clients automate marketing and listed on September 20th, was founded in 2012. So was Instacart. Arm turns 33 in November.

Startups that barely manage to edge into the black, as Instacart did for the first time in 2022, should prepare to go public at a steep discount to their peak private-market valuations. Jefferies, an investment bank, estimates that in the first half of this year stakes in venture-capital funds changed hands at an average of 69% of their reported asset values. This is already translating into compressed valuations on public stock exchanges. Instacart’s market capitalisation is around a quarter of the $39bn implied by its last private funding round in February 2021, when Silicon Valley venture investors including Andreessen Horowitz and Sequoia pumped $265m into the firm.

The way companies are listing their shares is also looking less exuberant. Bosses considering a listing in 2021 had two novel paths to the market, in addition to the old-school IPO. One was to merge with one of the more than 800 special-purpose acquisition companies (SPACs), which raised $220bn in 2020 and 2021, and allowed startups to escape some of the scrutiny of conventional IPOs. The other, a direct listing, involved floating shares without the usual IPO roadshow to drum up investors’ interest and line up buyers, for which investment bankers charge companies through the roof. But SPACs often attracted firms which had less sensible business models, or less scrupulous ones. After a series of scandals and disappointments, SPACs look dead in the water.

Whatever floats your basket

Today’s nervy investors may balk even at the less controversial direct listings, which can be more volatile since they do away with some of the pre-flotation price discovery. Indeed, what little IPO innovation there is aims to smooth the listing process in a jittery environment. Notably, both Arm and Instacart lined up big-name investors to buy slugs of shares in their offerings. These included, among others, Alphabet, Apple and Nvidia for Arm, and, for Instacart, Norway’s sovereign-wealth fund and PepsiCo. The practice has historically been more prevalent in cautiously capitalist Asia. America’s turbocharged capitalism may need to get used to it, too, at least temporarily. ■

Read more from Schumpeter, our columnist on global business:
The Mittelstand will redeem German innovation (Sept 14th)
America’s bosses just won’t quit. That could spell trouble (Sep 4th)
Cherish your Uber drivers. Soon they will be robots (Aug 31st)

Also: If you want to write directly to Schumpeter, email him at [email protected]. And here is an explanation of how the Schumpeter column got its name.