IPO or Bust
Choosing which tech startup to join is always a tough decision to make. You ask yourself a lot of questions: Does it have the right management in place? Does it have a solution that solves a big problem? Is the culture right for me? Do they have the right VC's backing it? Is this company going to make it? etc. A lot goes into the process and it's always a big risk as there are so many factors involved that you can't control or predict. If one of your goals is to work for a tech startup that is going to IPO, I have an interesting statistic to share with you. Or maybe you are already at a tech startup and are speculating if your company will ever have an IPO exit. This stat will shed some light.
HOW IPO's WORK
I think it's important to first understand how the IPO process works. According to CNBC, the IPO process takes roughly four to six months and is a grueling process for upper management to endure. There are 4 major steps in the Initial Public Offering process you should know about:
1. Choose a Booking Manager
The company first has to decide on an investment bank, aka "book running manager" to lead them through the process. For example, when I was part of Okta during our IPO in 2017, our leadership chose Goldman Sachs and J.P. Morgan Securities as joint booking managers to help guide us through the rigor.
2. S-1 Filing
The company then files a confidential document called the IPO prospectus with the Securities and Exchange Commission (aka S-1 filing). That filing is a sneak peak for investors into everything they should know about the company from risk factors to financial statements. This document is eventually released to the public for viewing so if you are ever wondering how many millions of dollars your CEO is worth, now you will know!
3. IPO Roadshow
After the S-1 filing, the company goes on a “road show” which gives investors the opportunity to meet executives at the company and ask them questions. Think of the IPO prospectus as a resume and the road show as the job interview. The Street defines the roadshow as when investment bankers representing a private company about to go public travel the country to meet with investors so they can line up buyers for the new shares the company will issue. A business typically aims to reach a triple oversubscription which means it has 3x the interest in its shares then they will make available. The more demand, the higher their IPO offering and more valuable the company is.
4. Determine Stock Price
On the last night of the road show (besides an elaborate dinner and some high-end drinks), the investment bank and company execs determine the price of their stock and to whom they’ll allocate the shares to. Typically, 85% of a company’s shares during an IPO are sold to institutional investors. In other words, your Aunt Bethany most likely isn't going to get a piece of the action until trading day.
"A business typically aims to reach a triple oversubscription" - CNBC
HOW MANY COMPANIES GO IPO?
I think it's also important to mention how rare it is to go IPO to begin with. This is an extremely difficult thing to do for various reasons. According to NVCA.org, the VC funding ecosystem backed 10,400 companies in 2019. To put this in perspective, 159 companies went public last year and only 42 of those were tech companies. Between 2000 and 2018, an average of 110 companies went public each year, compared with more than 300 a year between 1980 and 2000. It truly is an amazing feat.
Below is a look at the number of IPO's in the U.S. from 1999 to 2019 according to Statista:
With the global pandemic and the strain it has had on the economy, you can only imagine that the number of IPO's this year and next will take a hit.
What's also interesting is the staggering number of companies that are not even profitable that go public. In fact, many of the world's most valuable tech startups have never been profitable and have raised billions of dollars from investors while losing money each year. According to Business Insider, one of the reasons for this is that most tech startups focus on rapid growth in their early years and burn through cash in order to expand and compete effectively.
For example, Uber operated at a $1.8B net loss last year, Snap at a $1.3B loss, Zillow at a $119M loss, Square with $39M, Lyft, Pinterest, WeWork, Spotify, and Tesla all with tens of millions and even billions in losses every year. It's worth noting that it took Amazon 17 years to make a profit and is currently #5 on the Fortune 500 list. So, if you were wondering if reaching profitability is what determines if you going public or not, the answer is it doesn't. Wall Street is becoming more accepting of this startup model as investors are willing to tolerate negative cash flows for a long period of time.
"The number of unprofitable companies going public has hit 70%" - Business Insider
Will The Company I'm at Ever Go Public? This One Stat May Help You Determine That Answer
Now that you have a little more background on the IPO process and the rarity of a company actually making it to the big dance, I want to provide you with an interesting statistic that I gathered after evaluating 50 high profile tech startups that went IPO.
The research I did was simple yet the outcome I believe is extremely useful in terms of an indicator as to whether the company you are at or looking to join will achieve the legendary and infrequently accomplished public status. The analysis I did was strictly around the firm's age by taking the year they went IPO and subtracting it by the year the company was established (at the bottom of this article is the list of the companies I evaluated). What was determined is that the average age of a tech company from year founded to IPO date was just 7.5 years. This was pretty eye opening for me as I was very fortunate to be part of a successful IPO during my days at Okta - which happened to fall right in line with my research as it was 8 years old when we went public.
What This Means
For some of you, this stat may be alarming. You might have recently joined a late-stage startup that's 10+ years old and were told that an IPO is "on the horizon" as a ploy to get you to join. Unless they have filed their S-1 or are targeting a specific date to do so, you might be joining something that poses a lot more risk than there is to gain in terms of an IPO payout. After all, the shares are more diluted and your strike price is going to be much higher than joining an early stage. Plus, based on this research, the likelihood of it ever happening decreases every year in most cases.
For others, this stat might mean little to you if capitalizing on an IPO isn't a high priority for you. For me, this research was extremely informative and will be a big factor in future decisions in joining startups. I can tell you first hand, the money you can make from owning pre-IPO shares can be life changing if the company goes public. Using the firm's age can be another arrow in your quiver in deciding your next startup destination.
Companies Evaluated: Okta, ServiceNow, Workday, Zoom, Slack, Box, Salesforce, Cisco, Microsoft, Atlassian, VMWare, Pure Storage, Google, Splunk, Palo Alto Networks, Nutanix, Netsuite, Marketo, Facebook, Snap, Pager Duty, Crowdstrike, Peloton, Uber, Pinterest, Lyft, Domo, Twitter, DoorDash, Blue Apron, Zuora, Zscaler, Tesla, Netflix, Amazon, Cloudera, Twilio, Coupa, Apptio, Square, Zendesk, Grubhub, Truecar, Fireeye, Rocketfuel, Tableau, RetailmeKnot, Kayak.