Lessons learned from a hot month for IPO's
Three differing tails of premium multiples, shareholder returns, and capital efficiency
While Cava went public earlier this year, September is quickly establishing itself as the official coming out party for US-listed Tech IPO’s. In the last two weeks, we’ve seen three massive Companies go public: ARM Holdings (~$60B market cap), Instacart (~$9B market cap), and Klaviyo (~$9B market cap). Those three alone will raise ~$7B in IPO proceeds, making this the biggest month for IPO’s in more than a year.
What’s particularly notable about these three IPO’s happening in succession is that they likely signal the re-emergence of IPO’s as a viable exit for private companies. So far, all three issuances have gone fairly well, substantiating the claim that public markets investors are once again receptive to new issuances after months of volatility (while ARM and CART have traded since down, I’d still consider them fairly positive offerings).
Until this month, every late stage Tech company has been postponing the decision to go public until market volatility subsided. In fact, after an all-time high in 2021, 2022 was the slowest year for US IPO’s since 1990 (data from Bloomberg, below).
Until this month, 2023 was looking to end up in a similar place. Now that the floodgates have been opened, we’re likely to see the large stable of massive private Companies shuffle towards the public markets, in attempt to get their early investors and employees some much needed liquidity (I’d expect most of the action to happen in Q1 of next year).
Some of the largest private companies that are likely to take a hard look at going public in the next few months include SpaceX ($137B valuation), Stripe ($50B valuation), Databricks ($43B valuation), Chime ($25B valuation), and Discord ($15B valuation).
However, going public often looks fairly different for each company. Today we’ll spend some time looking at the three big September IPO’s to see what lessons can be drawn for private companies today.
ARM Holdings (IPO date: 9/14/2023)
ARM Holdings, a chip design company based in the UK, went public on the Nasdaq last week at a ~$60B valuation. While certainly a hardware business by nature, ARM has leaned heavily into presenting an AI-first story, going as far as to use the tagline “AI runs on ARM” in their fundraising materials (clearly attempting to draft on Nvidia / Generative AI hype).
ARM has had a rollercoaster of a past few years. The Company was acquired by SoftBank for $32B in 2016. Four years later, ARM signed an agreement to be acquired by Nvidia in 2020 for $40B, but the acquisition was ultimately called off due to regulatory concerns. Last week, the Company went public at a ~$60B valuation (though has now traded down to ~$55B), a substantial step up from Nvidia’s 2020 offer. This IPO has been a large, notable win for SoftBank, who has been in need of one after posting substantial investment losses over the last few years.
Today, ARM trades at a remarkable 20x+ revenue and 70x+ EBITDA, despite only expecting 11% revenue growth this year: a massive valuation for a hardware Company with only modest growth prospects. By comparison, Nvidia trades at 33x revenue and 66x EBITDA, but expects to grow revenue 100% over the next year.
I would argue that Nvidia itself already trades at a premium valuation, but in comparison, it almost appears cheap compared to ARM. Clearly, public markets investors are willing to assign premium multiples to AI businesses (in part because they are viewed to be more defensible / future proof).
Instacart (IPO date: 9/19/2023)
Instacart, a grocery delivery business, went public on the Nasdaq earlier this week at a ~$9B valuation. While the Company handles consumer goods, Instacart is distinctly a software company: they provide the technology marketplace to connect consumers with delivery agents and grocers (very similar to how Uber acts as an intermediary between consumers and drivers).
Unlike hardware businesses, software companies tend to enjoy premium multiples... though without a credible AI story, Instacart is commands a far lower multiple than ARM.
Instacart currently trades at ~4x revenue and ~16x EBITDA, roughly in-line with DoorDash’s trading multiples. However, while DoorDash has grown revenue ~30% this year, Instacart’s revenue has been flat. All else being equal, this would imply that Instacart should instead trade at lower multiples relative to DoorDash. It’s not surprising that they have also traded down ~10% since the IPO, as multiples rationalize.
Unfortunately, multiple compression is nothing new for Instacart. The Company has been hammered over the last few years as interest rates have increased and private company multiples have come down. The compression has been so prolific, that many of the private backers / VC’s who invested in Instacart along the way will have underperformed the S&P (or even lost money) over their hold period (below data per The Information):
Traditionally, if a Company makes it to an IPO, all of the VC’s who backed it along the way end up being big winners. In Instacart’s case, however, anyone who invested in their 2014 Series B or later would’ve been better off investing in the S&P. Of particular note, anyone who invested in Instacart’s Series I round in 2021 lost a lot of money betting on Instacart.
All-in-all, Instacart has raised ~$3.5B to hit what is currently a $9B valuation (which is an okay, but not great ROI given the time horizon).
Despite the valuation compression, Instacart has actually grown very well throughout the full hold period, but never fast enough to grow into it’s massive valuation. Going public at ~4x revenue is a far cry from the private funding rounds that were raised at 100x revenue. As we’ve discussed in the past, eventually, the math is always going to matter. Instacart investors will not be alone in learning this lesson, as many other private companies are expected to cut their valuations in upcoming IPO’s.
Klaviyo (IPO date: 9/20/2023)
Klaviyo, a marketing automation company focus on eCommerce, went public on the NYSE yesterday at a ~$9B valuation. While Klaviyo is also a software business, it has been shockingly capital efficient.
In fact, the Company has only burned $15M to hit what is currently a ~$10B valuation (in other words, they’ve been more than 200x more efficient than Instacart to get to the same place). I think I could make a case that Klaviyo should be inducted into the startup hall of fame based on that fact alone.
It bears repeating: this is an absolutely shocking level of efficiency, and one that has been extremely uncommon in recent years as lost borrowing costs have led to outsized spending by privates tech companies. If nothing else, Klaviyo’s IPO (and future performance) sets a shining example for future founders of what best-in-class capital efficiency looks like.
While Klaviyo’s IPO valuation is still ~flat to their last private round, all of their prior investors are set to cash in on massive windfalls in this IPO. Like all other tech companies, Klaviyo has also experienced multiple compression as interest raised have increased. However, their dedication to capital efficiency has allowed them to whether the storm gracefully: they’ve continued to grow ~50% each year, and are already profitable. As we’ve discussed in the past, profitable businesses are far less sensitive to interest rates.
Klaviyo is currently trading at ~16x ARR, and is expected to grow somewhere between 30-50% over the next year. Publicly traded software businesses with similar growth profiles are trading at ~9x ARR today, though none enjoy Klaviyo’s profitability or capital efficiency. As the one recent IPO that has actually traded up since its debut (currently up ~9%), investors seem to agree that it’s profitability is deserving of a premium multiple.
Takeaways / Lessons Learned for Private Companies
The IPO markets have clearly re-opened: after a silent 2022 and early 2023, I’d expect many of the world’s largest private companies to explore going public sometime in the next six months
All three businesses seem to be trading at premium multiples versus their peer sets today: Companies often experience favorable valuations as investors clamor to get into an IPO, but their financial performance over the next year will likely define where their multiples settle over the long term
Public markets investors continue to ascribe significant premiums to AI companies. Despite it being a hardware-exposed business with modest growth, ARM is currently trading like a high growth software company. As public markets investors look to “future proof” their portfolios, these premium multiples are likely to stick around
While premium multiples are nice, they don’t always stick around forever. Multiple compression crushed Instacart, and none of their investors over the last decade have made any real money (even while the core business has grown well). Growth investing isn’t just about asset selection / picking companies that will eventually go public: it’s also about forecasting exit multiples
Capital efficiency is more important than ever. Klaviyo’s best-in-class operations have powered it through a successful IPO, overcoming increasing interest rates and multiple compression. In the low rate environment of 2021, investors put a premium on growth at all costs: today, it seems that efficient growth has become the new north star
For private companies (yes, even AI startups), there’s an important lesson here on valuation and capital efficiency. While they are likely to enjoy premium multiples for the foreseeable future, that won’t always be the case: eventually, most businesses have to grow into their multiples. While it feels nice to raise at a massive valuation today, that valuation cast a large shadow. Companies will have to show very significant growth to raise at a higher valuation down the road.
For those that are able to raise massive rounds today and take advantage of favourable terms, however, it’s critical to manage burn closely and extend runway as far as possible.
Demonstrating capital efficiency will both improve future valuation multiples, and give founders more time to grow into their valuations (i.e., it’s easier to grow into a valuation over four years instead of over two years).