An IPO Isn't Just a Way to Raise Money -- It Shows a Company Is Mature and Deserving of Trust
A Note From The Editor
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"Going public" has emerged as the rags-to-riches story of our time, the literary archetype of a person's extraordinary, and sometimes instant, rise to wealth. Innovative minds build a business from an idea, raise money to make it grow with the trajectory of a hockey stick and watch the stock soar as management rings the opening bell at their initial public offering.
It is a good story. It is also a simplistic notion of the entrepreneurial process and a short-sighted view of the role of an IPO and the stakeholders it impacts. With a misplaced focus on skyrocketing share prices, we fail to consider that preparing for an IPO is as important as the moment the shares begin to trade. Moreover, it has policy implications that go far beyond the company, its founders or its early investors.
Instead of dwelling on whether we have enough IPOs, we should be asking: Why aren't more companies getting "IPO-ready"? Just because a company chooses not to go public doesn't mean it lacks the responsibility to become IPO-ready, or that it has no obligation to do so.
Private companies -- whether they choose to go public or not -- can and should meet the same standards of increased corporate governance, responsible leadership and financial transparency as listed companies. Self-regulation is in the best interest of investors, customers and our financial markets. It signals they are "growing up" as a company and as an investment.
With unprecedented levels of venture capital funding, many private companies today no longer need the public to finance their growth. Low interest rates have made for inexpensive capital, giving companies less need to raise funds through public channels. Individuals and institutions are allocating more of their portfolios to alternative investments, making it easier for private companies to access funds. IPOs have become less popular and difficult to execute, leading to fewer of these companies and their investors choosing to go public.
There are fewer IPOs, but that doesn't mean there are smaller companies. It just means that companies are much bigger when they do go public. Between 1980 and 1998, an average of 298 companies went public each year with a median market capitalization of $115 million, according to data from the University of Florida, Warrington College of Business.
Between 2001 and 2016, an average of 108 companies went public with a median market capitalization of $465 million.
U.S. unicorns, private companies valued at more than $1 billion, are worth roughly $360 billion. The global unicorn club, comprised of 214 private companies each valued at more than $1 billion, is worth roughly $745 billion. Historically, the majority of those firms would already be public entities. Instead, they stand as a large force holding sway over vast amounts of private investments, but with much less accountability. And capitalism doesn't thrive under layers of opaqueness.
Uber is one example of what can happen if we don't have accountability. Its streak of scandals, legal battles and regulatory defeats have made the ride-hailing service the delinquent child of private tech companies. It took a 30 percent valuation discount, or down round, by SoftBank Group Corp. to serve as a wake-up call to its management and for the company to embark on a mission to "grow up."
But it didn't have to be that way. Uber delayed the IPO process for a critical number of years, as it exploded in size, valuation and geographical presence after its founding in 2009. That allowed it to operate without the corporate governance and financial controls required of public companies and to fly under the radar of public scrutiny.
While it's easy to understand why companies would remain private in this environment, it's also clear they are underestimating the IPO process in one significant way: It doesn't just serve as a checklist to take a company public -- it acts as impetus to drive companies out of their comfort zone. It acts as a guide rail for companies to mature.
Private companies such as Evernote, Pinterest, Dropbox and Airbnb are great at innovating and capturing market share, and have grown rapidly. They are mature when it comes to the metrics of market capitalization and market share. But, how do we, as investors and consumers, know they are acting mature?
That's not to say there are inherent problems with these brands. However, without the transparency of public financials, mandated corporate governance protocols and an open market to value them, we may be vulnerable to investing in and trusting some companies that aren't ready for our trust.
We know that going public means an opportunity to access a lower cost of capital, market a company brand, create currency for an acquisition, generate a culture for change and provide incentives for employees. But going public is also a rite of passage. It means a company has met that higher standard of transparency and financial responsibility in the form of bylaws, independent directors, regular disclosure, and checks and balances on accounts. It also means forming teams to reduce dependency on the one or two individuals who started the business, ensuring the right people are in place to lead the company to the next growth stage. It means establishing a clear mission and creating consistent metrics to communicate the company's growth internally, shape the strategy and tell the story of the business to the outside world.
With that "IPO-ready" stamp of approval, a company exudes an aura of confidence. It conveys to consumers, investors and employees that it has the governance and discipline to seek a fair return on investments and that it's ready to accelerate growth responsibly. It is an honorable status that validates not only what a company does, but how it does it. Preparing for an IPO is a coming of age moment.
This economic environment of cheap capital won't last forever. People are going to see they can lose money on these investments, and regulators are going to start paying more attention to these companies. As private companies grow larger and larger, there will be more pressure to act "IPO-ready." And the longer they wait to start the process, the harder it will be. If they wait too long, they could draw the attention of regulators who take it upon themselves to impose oversight, potentially limiting growth and innovation, and compromising reputations. Self-regulation is better policy than waiting for the other shoe to drop.
We need to rethink our frenetic, short-term time horizon that favors market players, and instead adopt a long-term view that contemplates a broader and more complex set of relationships among all stakeholders. Public investor scrutiny is high, but that's a good thing. And just because a company isn't going public doesn't mean it shouldn't act like it is.