How to achieve a sustainable IPO market

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Valuations and IPOs are heating up again, after more than a dozen brutal years for our industry and economy.

Will the opportunity be squandered into another shortsighted bubble, relegating us to more crashes and recessions?  Or can we cultivate a sustainable IPO market to propel us into a long-lasting economic cycle of innovation and prosperity?

The $33.5 billion late-stage and IPO funding market has been artificially depressed for over a decade, slowing the progress of scores of innovative, high-growth companies and severely disrupting our industry and the nation’s economic growth.

About 200 venture-backed companies are backlogged within a two-year, pre-IPO window. These companies represent the next new wealth creation for our economy, also delivering 92% of their job growth post-IPO. If managed for long-term sustainability, the late-stage/IPO market easily could expand to $100+ billion annually.

Many believe that IPO performance is influenced only by current economics, industry trends … and mostly luck.

However, we’ve proven that great value can be added by enhancing portfolio companies’ internal capabilities, relationships, and access to resources. It’s high time we apply these powerful skills to public market performance. The solutions at our fingertips, and do not require regulatory changes, or external support.

A sustainable IPO market requires valuations based on fundamental performance over the long-term. Today’s markets are focused instead on short-term trading profit extraction.

Fed by volatility, high-velocity markets require powerful stock sales and marketing to support new IPOs in their aftermarkets. Investment bankers historically delivered much of this support under the pre-bubble market infrastructure. However, post-bubble decimalization, analyst firewall regulations, bulge bracket economics, hedge fund dominance, etc., have restructured the economic incentives that used to support post-IPO trading.

Yet, the IPO process has remained nearly unchanged despite more than a decade of limited opportunity and poor aftermarkets.

Companies can effectively replace this missing support by developing their internal Capital Relations function. This stock sales and marketing function manages private placement fundraising, IPO optimization, and public markets investor relations. But it requires time to build relationships, and should begin at least two years before potential IPO plans.

Treat your stock – your equity-generating product – with the same care and investment as your revenue-generating products, and watch your results change accordingly.

Long-term growth QIB investors (Qualified Institutional Buyers, with $100+ million AUM) have similarly-aligned investment goals as founders and VCs. Their long-term holding style provides price and trading stability that also boosts company brands and operational activities.

QIB relationships must be nurtured over time to help them research, analyze, and understand the business. Since their extended time horizon exposes them to more risk, price sensitivity is greater and investing earlier at private, illiquid discounts is a better match.

T. Rowe Price has been a leader in this public-private investing trend over the past decade, with solid positions in many of the 200 backlogged companies. Other public and private investors are following suit. However, beware short-term investors who do not offer the same benefits. And in fact, may offer the opposite.

Companies must act as their own fiduciary, managing external vendors for maximum sustainable shareholder value. Public shareholder base optimization is best achieved by having 60 percent to 70 percent long-term holders for stability, and 30 percent to 40 percent short-term holders for liquidity.

This “golden ratio” allows for balanced stock price that aligns naturally to fundamental performance, and sets the foundation for a sustainable IPO market.

IPOs are at the core of U.S. and global economic growth and job creation. Let’s use the opportunity ahead of us now wisely to experience a new sustainable prosperity, rather than repeating the bipolar boom-bust cycles that defined our past.

Mona DeFrawi is CEO and founder of Equidity. She can be reached at mona@equidity.com

This story first appeared in Reuters Venture Capital Journal. Subscribers can read the original story here. To subscribe to VCJ, please email Greg.Winterton@ThomsonReuters.com.

Photo of IPO keyboard courtesy of Shutterstock.

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