For startups making an exit onto the public markets, traditional IPOs were king until about 2019, when direct listings became the popular alternative, thanks to companies like Spotify and Slack. Then, SPACs stole the limelight in 2020 and these special purpose acquisition companies became the other alternative that more startups began to consider.
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Those three routes to the public market — IPO, direct listing and SPAC — are still the main paths for a company to go public, but there are other ways for a business to end up on a public stock exchange in the U.S. as well. Each has its pros and cons, and while traditional IPOs are still seen as the “default,” they’re not the only option.
With these IPO alternatives getting more attention, I thought I’d write a bit about each way to go public, what kinds of companies are best suited for each path, and the other ways a company’s shares can become publicly traded.
An initial public offering, or IPO, is still more or less seen as the default way to go public. It involves hiring banks as underwriters, going on a roadshow to sell the idea of the company to investors, and then selling a block of shares to investors at a set price to raise capital before trading begins on the exchange.
IPOs are ideally suited for companies that are generally considered “healthier” or more appealing to the public market, according to Robert Siegel, a lecturer at the Stanford Graduate School of Business. Public markets tend to not want products and services that are too speculative, though that’s changed a bit in the past few years.
Another reason companies traditionally have gone the IPO route is because they needed to raise capital in the process as well (though now companies can also raise capital through direct listings, which I’ll get to later).
IPOs are expensive. We’ve written about how pricey and time-consuming the process can be, and that’s part of the reason some companies consider other ways to go public, like direct listings and SPACs.
Option 1: Initial public offering
- What it is: The process of offering shares of a private company to the public in a new stock issuance, thereby listing the company’s shares on a stock exchange and raising capital in the process.
- Pros: The traditional method to take a company public, a way to raise capital.
- Cons: Lockup periods, expensive, can be a lengthy process.
- Companies that have gone public via this route: Facebook, Amazon, Netflix — in fact, most of the biggest and most prominent public companies.
In certain, kind of nerdy, circles, “IPOs vs. direct listings” was the hottest debate of 2019. Spotify and Slack both went public through direct listings, and this option was seen as a cheaper, more efficient alternative to IPOs. Companies could save money on underwriting fees, avoid lockup periods, and not have to worry about “leaving money on the table” if their stock surged on the first day of trading. Most recently, Roblox and Coinbase went public through direct listings.
“The company that maybe doesn’t need cash necessarily and has a lot of market power and doesn’t like the IPO process could do a direct listing,” Siegel said.
Traditionally, direct listings have been thought of as best suited for companies that have a lot of name recognition. You don’t need investment bankers to help you through a roadshow and tell the story of your company if everyone knows who you are.
The Securities and Exchange Commission in December approved the New York Stock Exchange’s proposal to change how they do direct listings so that capital can be raised. While that change may make a direct listing seem more similar to a traditional IPO, there are still key differentiators.
“Some of the considerations here are things like not really having any intermediaries, not really issuing new shares, no lockup,” said Prashanth Chandrasekar, a former vice president at Barclays Investment Bank and now CEO of venture-backed developer platform Stack Overflow. “I think the spirit of providing faster liquidity, it’s a good thing right? Whereas a traditional IPO there is a lockup and things like that. I think this puts this more control in the companies’ hands rather than leaving it up.”
Option 2: Direct Listing
- What it is: A way to go public that doesn’t involve selling a block of shares like an IPO.
- Pros: Cheaper than an IPO (save money on underwriting fees), no lockup period (easier to access liquidity), now companies can raise capital through a direct listing.
- Cons: A company needs to have strong brand recognition to be a viable candidate for a direct listing, since it won’t have help from banks to get in front of investors and sell the story.
- Companies that have gone public via this route: Spotify, Slack, Roblox, Coinbase.
Special purpose acquisition companies, or SPACs, are having a moment, and they’re about to start having a supply and demand issue.
SPACs are essentially blank-check companies that are created by a group of investors who are interested in a particular sector and use the SPAC as an acquisition vehicle. The SPAC goes public, and then takes a private company public by acquiring it. SPACs have been all the rage this year, with gross proceeds totaling nearly $100 billion. High-profile investors including Chamath Palihapitiya (who’s often credited with helping popularize SPACs) and Bill Ackman have formed SPACs, along with athletes and celebrities like Shaquille O’Neal, Ciara and Colin Kaepernick.
There are two types of target companies that often go the SPAC route, according to Siegel. The first group is healthy companies that want to avoid some of the more annoying parts of the IPO process, like not being able to talk about future projections or having to go on a roadshow.
The second type is “speculative companies,” which are often pre-revenue. Unlike companies taking themselves public via an IPO, SPACs allow for the target company to make future revenue projections, so it’s a good option for businesses in spaces like cleantech and electric vehicles that want to raise capital, but haven’t generated revenue yet.
“Before the SPAC market got going really strong, it was pretty rare to see, outside of biotech, to see many pre-revenue — really early stage (companies) in terms of their product development — going public,” said David Ethridge, PricewaterhouseCooper’s deals managing director and U.S. IPO services leader. In the past year or so, the SPAC market has grown in the corner of earlier-stage companies, Ethridge said.
The one holdup with the SPAC craze is that there may not be enough target companies for all the SPACs out there. Because of the sheer number of SPACs formed in the last year, it’s likely that they may not all be able to find targets before their expiration dates are up. As Chandrasekar of Stack Overflow put it, there are only so many quality companies that can go public.
Option 3: SPAC, or special purpose acquisition company
- What it is: A “blank-check” company formed by a group of investors and taken public for the explicit purpose of acquiring a private company and in doing so taking it public.
- Pros: A cheaper, faster way to go public than a traditional IPO. Companies can also disclose future revenue projections (a big plus for pre-revenue companies).
- Cons: It used to be considered a “less respectable” way to go public, but that perception has somewhat changed.
- Companies that have gone public via this route: Virgin Galactic, DraftKings, Clover Health.
A reverse merger is similar to a SPAC in that a private company becomes public by merging with a public company. The already-public company is often trading on over-the-counter markets and is somewhat of a “zombie” company, according to Siegel.
“It’s similar to a SPAC, but it’s not an entity that was created to take a company public,” Siegel said.
In a reverse merger, a private company buys out the necessary amount of shares to control the public company. In this way, the private company becomes public and the two entities have merged.
One of the most notable examples of a company to go public this way is the New York Stock Exchange itself. The NYSE acquired Archipelago Holdings to form the NYSE Group back in 2006. Another example is when Turner Advertising merged with Rice Broadcasting to form Turner Broadcasting.
Reverse mergers tend to involve companies that have been around for a while and aren’t considered appropriate for an initial public offering, since IPO candidates are generally considered healthy and appealing to the market. Reverse merger deals still offer a relatively easy way for investors in the private company to get liquidity, according to Siegel.
They’ve historically been easier to do because there were many penny stocks to merge with and SPACs weren’t as available (SPACs began in the U.S. in the 1990s, according to Excelsior Capital). Companies going through reverse mergers also don’t have to deal with the details that come with a SPAC structure.
Option 4: Reverse merger, also called a reverse takeover or reverse IPO
- What it is: A deal in which a private company becomes public by merging with an already-public company.
- Pros: A cheaper, faster way to go public than a traditional IPO.
- Cons: No capital is raised, the private company quickly needs to adjust to being compliant with SEC rules, the markets can sometimes not perceive reverse mergers as favorably as IPOs, according to IPOhub.
- Companies that have gone public via this route: NYSE, Turner Broadcasting.
Others Ways A Company Can Be Public
IPOs, direct listings and SPACs are the main three ways for a company to go public. But there are a couple other ways a company can end up being public in the U.S., according to PwC’s Ethridge, though it’s typically not a path on the public “menu,” so to speak.
Companies can end up being public through debt issuance or by moving from trading on the pink sheets to the major exchanges (often via a reverse merger).
Companies that are publicly traded in another country can also move to an American exchange. In those cases, the exchanges count the foreign company’s move to a U.S. exchange as an IPO, Ethridge said.
“Regardless of what path they choose, the endpoint is the same,” Ethridge said. “And you wake up after the ringing of the bell at the exchange and you have an obligation to the stakeholders. And can you deliver?”
Illustration: Dom Guzman
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