Ungraceful exits

PrivateEquityOnline looks at how recent jitters on world stockmarkets are affecting industry thinking, including the decision of when to launch an initial public offering.

Before nervous investors started punching tiny holes in the Internet bubble, there was a lot of talk about “revolutions” and “new paradigms” driving the dizzying market valuations of hi-tech stocks. Old economy companies “didn’t get it”, and the rising stars of e-commerce such as Lastminute.com were praised for their “unique business models”.

What a difference a few points off the NASDAQ makes. When the tech-heavy index fell by nearly 14% in response to the Microsoft ruling, the talk quickly shifted to “sorting the wheat from the chaff” and how old economy giants have most to gain from any Internet-led productivity revolution. As for Lastminute.com, it is now a “bucket shop”, according to one journalist.

The change in market sentiment is also affecting a big decision facing all entrepreneurs, investors and investment bankers, particularly those in Internet sector where most new business are springing from – when to launch an initial public offering (IPO)?

The decision used to be an easy one. An IPO was the quickest way to raise expansion capital and make paper millionaires out of the entrepreneurs involved. But when Bill Gates sneezed, the NASDAQ caught a cold, and the issuing environment changed dramatically. At the same time, primary issues from media darlings World Online and Lycos Europe flopped spectacularly, leaving the rest of the pre-IPO pack pondering how they would fare before jittery European and US public markets?

“It is going to weed out the rubbish and strengthen the stronger entities,” thinks Tony Blin-Stoyle, managing director at Upmystreet.com, a portal that offers its users information about their local community. The company just completed a second round of venture capital financing, and counts among its backers media giant News International, whose offline credentials Mr Blin-Stoyle is keen to emphasise.

“News International is a strong offline brand, and can give us support through thick and thin,” he says. “We can almost transcend public markets.”

Nonetheless, it was nervousness about the public markets that prompted Upmystreet.com to secure £12m from its just-completed financing round, rather than a more usual £4m followed by another round in the summer. The additional funding also gives the company more control over the timing of its IPO. “If we need to raise more money and IPO is the best route to do that, then that is what we will do. If we have a sustainable business model it will be a successful business IPO – the two follow,” says Mr Blin-Stoyle.

As for other Internet businesses, Mr Blin-Stoyle thinks there are too many companies only in business to IPO. He reckons they are giving companies like Upmystreet.com, who have both experienced managers and established backers, a “bad name” among investors.

John Pullar-Strecker, head of Aberdeen Asset Management’s global technology desk agrees there are some “dubious” outfits in IPO pipeline. He believes it is too early to tell whether there will be a slowdown in the number of new listings over the medium term, but considers it likely if the roller-coaster continues.

In any event, he says the spate of recent IPO flops will force bankers and venture capitalists in particular to reflect on the quality of the businesses they are bringing to market. “If it wakes the bankers up that’s good,” Mr Pullar-Strecker told PrivateEquityOnline. “If it slows down the venture capitalists that’s even better.”

While he insists Aberdeen itself will not be affected by the end of the IPO goldrush, he says it will force investors in general “to ask why they are investing in certain stocks rather than just using an IPO as a chance to make a bit of money.”

An investment banker PrivateEquityOnline spoke to couldn’t confirm whether or not the slide in hi-tech stocks had given he and his colleagues pause for thought. He said that with so many sensitive IPOs in the pipeline, bankers were reluctant to call it one or way or the other, for fear of sign-posting their intentions to competitors.

Given such uncertainty, banks are increasingly eager not to rush the move to market. Last week the Wall Street Journal learned from a London investment banker that clients were being advised to delay their IPOs if they were not desperate for the cash. “You just can’t raise the kind of money that was possible three, four weeks ago,” the paper was told. According to another revealing newspaper report, Goldman Sachs pulled out of the Lastminute.com IPO because of a dispute with management over the timing of the listing.

Despite the current crunch, most of the IPOs currently in the pipeline are likely to find their way to market eventually. The alternatives for many loss-making start-ups are worse than a failed IPO: either to close up shop or go groveling, cap-in-hand, to increasingly wary venture capitalists.

Expect a lot of talk over the coming weeks about a “return to fundamentals” and the importance of a “discriminating” investment strategy. Expect a scramble among investors and entrepreneurs to positional themselves at the quality end of the spectrum. And, with the hype gradually tailing off, expect a lot less of Martha Lane-Fox on the front page of European newspapers.