Why Companies Are Staying Private Longer?

When anyone starts a company, their initial goal is to open it for initial public offerings (IPOs), but lately, this trend changed. In 1980, the median age of a company at its IPO was six years, but by 2021, the median age has increased to 11 in 2021. This shift shows a notable change in the startup industry and its consequences for businesses and shareholders. Research shows that this trend is part of a more significant transformation in the startup and investment landscape:

• With increased capital invested in private companies, from $14.2 billion to $80 billion from 2002 to 2019, companies can grow significantly without needing to go public.
• Large asset managers such as Morgan Stanley or BlackRock recommend more private market inclusion into investor portfolios, bolstering the capital inflows to growth equity strategies.
• Founders can now set a long-term strategic plan that will not be compromised by the short-term results indicated in quarterly returns.

So, what are the causes of this change? And what does it mean for investors eager to capture the growth of the next big thing? To address these questions, it is necessary to discuss the dynamics of the IPO environment, shifts in private markets, and the reasons for founders to maintain their businesses as private companies for a long time.

The early 2000s IPO landscape

Think back to the early 2000s’ which brought visible prosperity and glamour with the dot-com bubble. Once again, that is best characterised as the period when IPOs and going public became the game's name. This was seen with today’s giants such as Amazon and Google, which IPOed shortly after their establishment.

Speed of IPOs for early giants

The 1990s and early years of the twenty-first century witnessed the growth of dot-com companies and speculative mania in the IT industry. It became clear that they needed capital, visibility, and credibility, and hence, internet giants such as Amazon, Google, and eBay were the first to venture into the public market. These companies offered their stocks to the public as soon as they went public, enabling investors to be part of the company from its infancy.

Image source: McKinsey & Company - The 'tech bubble' puzzle

Amazon was founded in 1994 and went public in 1997—only three years after it started with a $438 million valuation. Google was created in 1998, and it only took up to six years to go public in 2004, with a $23 billion valuation on its first day of trading. This fast track to IPO was standard when companies wanted to get into the public markets and benefit from the tech mania and higher multiples in valuation. Other examples are eBay, which went public only three years after its founding, and Yahoo! only took two years. These rapid IPOs were driven by the perceived glamour of following the dot-com boom, the demand for capital to fund rapid growth under a regulatory environment. As the P/E ratios mean reversed to the public market average over the years, founders are less incentivised to open their growth playbook to the public markets.

Image source: Voronoi - The Dotcom Boom and Bust in One Chart

Market maturity and depth in the early 2000s

It is important to note that several years back, the private markets bore little or no resemblance to today's. They were relatively underdeveloped, and the availability and affordability of capital were nonetheless more restrained. Private markets were shallow compared to current standards, and venture capital was less diverse than it is now. Also, there were fewer VC firms. In 2000, there were more than 700 active firms, while the number increased to 2900 at the beginning of 2022.

Alternative funding, such as crowdfunding, angel investors, and other VC funds, were limited or nowhere to be found. This environment often forces companies to go for IPOs as a means of achieving their next level and the way of financing. Listing of equity was deemed the next step for most successful start-ups, as well as giving capital for the expansion of the businesses and an exit for early investors.

Also, the nature of the regulatory framework was different. Sarbanes-Oxley Act was passed in 2002, a federal law that established sweeping auditing and financial regulations for public companies to protect investors by improving the accuracy and reliability of corporate disclosures made under the securities laws. It was a move that strengthened corporate governance but placed a tremendous burden on public companies, particularly in compliance. Before this, getting listed was a manageable process, which cost a lot less than it does now, making it easier for the growing companies.

Private markets 2.0: Modern times

When we come to modern times, we will refer to them as private markets 2.0; the picture looks dramatically different. Companies are delaying their IPOs more than ever, enjoying a record of funds availability, technologies, and globalisation. This shift is shaping a new generation of investments and creating new prospects and risks that early investors in the private markets of today’s high-speed world have to face. Like every other era, private markets 2.0 has its uniqueness, and we will examine the reason for this uniqueness with the post-global financial crisis era (post-GFC), cheap money characterisation, overvaluation in stock markets, and the rise of private equity.

Increased access to capital

Since the beginning of the new millennium, private markets have evolved significantly. Mainly since the 2007-2008 Global Financial Crisis (GFC), we have observed the low-interest-rate environment, which resulted in significant inflows into private equity, venture capital, and other forms of PE investments—this period of cheap money, a loan or credit with a low interest rate, played a part in overemphasising public market funding, which many firms shifted more to private market funding. For example, when we look at the tech companies' case, investment in them has almost increased tenfold (Series E+) since the crisis and has tripled (all series average) in the past few years.

Image source: McKinsey & Company - Frow fast or die slow: Why unicorns are staying private

Impact of the GFC on private equity

After the GFC, a sharp decline in fundraising and deal-making activity harmed the development of international private equity. When we look at the global private market fundraising, we see almost 60% drop from $647 billion in 2008 to $278 billion in 2009.

Image source: McKinsey & Company - Global Private Markets Review: Private markets turn down the volume

The crisis affected the shareholders by making all financial market sectors and investment strategies more sensitive. Buyout companies which employed vast amounts of debt, a typical characteristic of PE firms, were especially exposed when liabilities linked with unrestricted borrowing were revealed. The PE firms’ investors, who lost several dollars during the financial crisis, began to call for more transparency, better risk management and good corporate governance. Also, demand rose for PE as traditional investment options were declining. The prospect of a higher return did attract more interest and sparked more scrutiny. This resulted in deeper due diligence investigations, increased disclosure norms for investors, and emphasis on PE firms' strategies and performance records, which redefined the investor and PE firm dynamics in the so-called post-crisis environment.

The outcome for the present world

In the present world, firms like SpaceX, Canva, and Getir have billions of funding, but they are not listed. These companies have benefited from the emergence of venture capital and private equity to secure the funds needed for the operations to remain private for a long time and grow at those strategic rates. For instance, 99% of Getir’s equity is still owned by private individuals, demonstrating just how influential private capital has become in today’s startup environment.

Image source: BlueTrust - Why Has the Number of Public Companies Declined?

Market maturity and depth of today’s private markets

By now, the existing private financial markets are more developed, and penetration into global financial markets is more accessible than before. Global private equity net asset value is growing three times faster than public markets. In the 2000s, the private equity industry had $700 billion in assets under management. Twenty years later, this number has increased to $13.1 trillion as of June 2023. Also, private equity allocations increased from 6.4% to 10.1%, highlighting a significant rise in alternative investments, while traditional assets like stocks and fixed income saw more stable or declining shares.

Image source: McKinsey & Company - Private markets: A slower era

Sources of financing technology and globalisation have significantly increased financing to greater extents. Through the help of online platforms, startups get easy access to investors worldwide, and with the current development in fintech, the means of investment are eased. Private equity firms increasingly focus on technology investments to support this trend and create a loophole. We can see this focus by looking at the numbers: 57% of public-to-private technology deals led by private equity in the first half of 2023.

Also, it has been noted that the various private markets have perfect operating methods of granting liquidity to the first investors and employees without conducting an IPO. Secondary markets, which allow private shares to be traded, have become more active and liquid to enable partial exit and, thereby, less pressure for an IPO.

Founders’ desire for control

So why are founders increasingly motivated to delay IPOs? The answer lies in control, flexibility, and the ability to focus on long-term growth.

The appeal of staying private

So, what is happening for many founders is not simply that private capital freed them to stay out of the scrutiny of the public markets – it is that they craved freedom from public markets. We’ve gathered the five main topics of the advantages of staying private:

• Access to capital: The availability of venture capital means that startups can secure large amounts of funding without the need to float their companies in the stock market. This gives the money necessary for the organisation’s expansion and subsequent development while staying out of the public sector. Between 2004 and 2015, only six of 35 public software companies could reach a valuation of over $10 billion without going public, and the number is exponentially increasing.

Image source: Linqto - Why are companies staying private longer: Expert analysis on this growing trend

• Control and flexibility: Going public requires the company to surrender considerable control of its operations, policies and major decisions. Every public company has to answer to its shareholders, regulatory authorities and other stakeholders and is constantly burdened by the quarterly reporting season. Such an environment could challenge founders who wish to run their companies in their vision long before third parties meddle in their business.
• Regulatory burdens: The decision to go public results in many regulatory requirements (eligibility criteria such as minimum net worth, pre-tax operating profit, etc. or process regulations such as registration statement or post-effective periods) and compliance costs (from $2M to $100M). Because of this, startups want to remain private since the expenses and waiting durations restrict their growth and operational functions.
• Market conditions: Public markets are unpredictable and usually affected by certain conditions, such as the global economic crisis. Many organisations search for the best prospects that could enable them to set a desirable value for their IPOs.
• Technological advancements: New technologies, including cloud computing, have enabled companies to require less capital in the early stages of their development and thus remain private for longer durations.

Growth without going public

It has become possible for companies today to grow while still retaining that non-public status. This trend enables startups to achieve a well-developed business model before entering the public market. A business entity's ability to obtain large amounts of capital in the private markets enables it to avoid issuing an IPO to finance its growth or to allow early investors to cash out.

For example, Stripe, the payment service provider, has raised $9.4 billion in private funding and was valued at $70 billion, placing it among the largest private startups internationally. On the same note, Bytedance, the parent company of TikTok, has secured billions of private funding and acquired a $268 billion valuation despite not going public.

This also means that such companies can easily manage market instabilities and even adverse economic conditions without resorting to going public. In some aspects, private companies, in particular, do not stay entirely bound by their plans; instead, they can be formulated and shifted according to their execution because they do not directly answer market reactions as opposed to public companies.

Image source: Wealt - Mastering the Market with Private Investments

Implications for investors

With the growing complexity of private markets, investors face risks and opportunities. The new trend of companies delaying their IPOs presents investors with a new challenge, as the old frameworks may be inapplicable. Given this ever-shifting market structure, this section discusses opportunities for investors and how they can effectively capture them.

The rise of private investment opportunities

With more firms going private and staying private longer, more opportunities in the private market are opening up for those who have the capability to access them. The trend of increasing demand for private market investments, projected to reach $21.08 trillion by 2030, also supports their concept. This trend is expected to persist as more investors look for the opportunity to invest in high-growth companies at this stage.

Private investment opportunities offer greater returns. Platforms such as Wealt, an exclusive network for sophisticated investors, offer privileged access to exceptional investment opportunities. They also allow early shareholders and employees to easily access private investments and sell their stakes, offering some liquidity to accredited investors without going public.

For public market investors

We only discussed private investments, but what about public market investors? Even though we discussed delaying the IPO, this also impacts public market investors. The number of firms currently listed in the public has reduced from 8090 in 1996 to 4572 in 2023, with a 43% decrease, limiting the growth options for public market investment.

Image source: BlueTrust - Why Has the Number of Public Companies Declined?

Missing opportunities will increasingly leave public market investors behind since more organisations postpone their decisions to go public. Public market investors:

• Won’t have limited access to high-growth opportunities or innovative technologies.
• Higher prices and lower returns with increased competition for the remaining IPOs.
• A shift in portfolio strategy requiring diversification into alternative investments.
• Decreased transparency due to fewer companies being subject to public reporting requirements.

Future outlook

This trend will remain unchanged in the future, and such companies will remain private for even more extended periods. In this regard, investors would need to modify traditional approaches by incorporating elements related to private market opportunities. More specific developments could include new investment products and adjustments in laws and rules of the market to facilitate the transition of companies from private to public sectors.

What has been observed is that there have been significant shifts in startup investment. Though this might disadvantage investors in the public market, it brings forth opportunities for investors willing to venture into the private market. However, as is always the case in the field of investment, flexibility is a determinant for taking advantage of these changing trends. Consider exploring private investment opportunities through Wealt, and keep an eye on emerging market trends by following our blog to stay ahead of the curve.