By John Drachman
After Covid-19, our feelings about children’s ball pit playgrounds and luncheon buffets will probably never be the same.
Likewise, the Initial Public Offering (IPO) market, that mainstay of American capitalism, has also changed forever.
In a way, 2020 reinvented the IPO market, with more changes last year than over the past two decades. With on-site roadshows replaced by virtual IPO events, companies are likely to stick with virtual meetings even after business travel resumes as the level of excitement for newly listed companies continues.
Beyond the operational challenges of preparing a company to go public, however, the market has seen growing interest in an alternative to the IPO market that has been barreling forward since the stock market’s spring rebound last year.
Called direct listings, these offerings provide a substitute launch approach for those private companies going public who want to provide liquidity to existing shareholders and employees while offering their shares to the world.
Pros and Cons of IPOs vs. Direct Listings
When faced with the choice of investing in an IPO or a direct listing here’s what cash-flush investors need to know.
With IPOs, the company uses fee-charging underwriters to build interest in IPO shares; resulting in substantial compensation allocated to these intermediaries for supporting share prices through their marketing and publicity efforts.
On the downside, IPOs have lockup features that restrict the supply of shares initially sold. While this gives traders a handy pricing benchmark in the beginning of the offering, eventually that lockup will expire. The result: a flood of shares entering the market has the potential to push prices down if investor interest wanes.
Those companies that can’t afford underwriting, don’t want share dilution or are avoiding lockup periods can opt for the direct listing route. The pros include greater cost-efficiency since no underwriters are involved. On the flip side, a company has to be well-known and have substantial revenue to succeed without the hoopla of an IPO bandwagon rolling through the offering period.
A recent example of a direct listing success was February’s social media gaming phenom Roblox (NYSE:RBLX) beloved by pandemic-bound children everywhere. Opting for a direct listing and not an IPO, Roblox checked both the “well-known” and “revenue” boxes easily. While shares have moved sideways so far, the company recently announced an impressive partnership with toy giant Hasbro for Roblox-inspired games.
The Bottom Line
With the persistence of relatively low inflation, historically high liquidity in the equity markets and a seemingly endless tech-driven investment horizon, private companies going public are not in short supply. Whether you favor IPOs or direct investments, crafting attainable investment objectives and finding the perfect financial advisor to help you achieve them may still be the higher priority.
John Drachman is a contributing writer to MyPerfectFinancialAdvisor, the premier matchmaker between investors and advisors. John is an IABC award-winning writer, who applies his 30 years of financial marketing experience toward advancing the dialog between investors and investment professionals.