It used to be that startups form, gather financing, grow, then go public. But Uber and some of the leading venture-backed companies these days are disrupting that model.
The typical trajectory of a tech startup is understood innately even by people who never watch the biting satire on “Silicon Valley”: Start a company in your garage. Collect big checks from a venture capital firm. Get bigger. Go public. Ring the opening bell at the New York Stock Exchange. Finis.
To use one of the tech industry’s most trite words, this narrative is being disrupted by a new crop in the technology industry’s heartland. Uber and a handful of the best and brightest tech startups are disrupting IPOs by refusing to go public entirely.
I’ve always rolled my eyes when prominent tech-startup founders like Travis Kalanick of Uber and Alex Karp, the CEO of the spies’ favorite software firm Palantir, say they want to delay an IPO, perhaps forever. This isn’t an unusual sentiment in recent tech history. Google held off an IPO for what felt like forever — six years from when the company was founded. A Google employee once wore a barrel to a Halloween party to protest how broke he was because he couldn’t sell his stock in an IPO.
It’s true that the best tech companies have been waiting longer and longer to go public. In 2014 and 2015, the median age of technology firms that went public was 11 years from their founding date, according to research by University of Florida finance professor Jay Ritter. During the peak of the dot-com boom, it was four years. But nearly all tech companies that collect big sums from venture-capital firms go public eventually.
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At least until now.
For a handful of today’s tech startups like Uber, their biggest disruption is stress-testing an emerging investment model that allows them to keep selling stock absent an IPO.
There’s an obvious appeal to IPO avoidance. For the startup elite that can raise limitless cash on whatever terms they want, staying private means they are accountable to (almost) no one. They can keep rivals from learning secrets like their revenue and profit margins.
The real unicorn in Silicon Valley will be the first startup that needs huge amounts of money but never needs to go public to get it. Uber could be that company. Uber just collected $3.5 billion from Saudi Arabia’s government fund. For a point of comparison: Before Facebook held its IPO in the tech Precambrian era (2012), the company sold more than $2 billion of its stock to investors in private sales. In other words, from Facebook’s birth to its IPO, what became one of the world’s most valuable companies had collected less money than Uber did last week from a single check signed in Riyadh.
A boom in the supply of money outside the public markets is perhaps the biggest change in the post-Facebook era in Silicon Valley. Of course, venture-capital firms have bankrolled startups for decades. They’re raising record sums to fund tech companies. They have also been joined by moneybags from mutual funds and hedge funds that typically buy stocks of public companies. Those firms invested in private startups during the dot-com bubble, too, but it was a relatively small group and they retreated back to New York or Boston after the bust.
In recent years, they came flooding back to Silicon Valley with reinforcements. The mutual-fund types, plus newer arrivals like sovereign wealth funds in the Middle East and Southeast Asia and billionaires in Russia, have become the new IPO market.
Data-analysis startup Palantir is perhaps the king of luring investment dollars that enable it to avoid an IPO. The Palo Alto, Calif., company regularly lets employees, its early investors and some others sell limited amounts of their shares to private investors. The typical model has required employees and early investors to sit on their stock until after an IPO. This Palantir release valve makes it less likely that employees will show up to parties wearing barrels or otherwise put pressure on the company to go public.
Palantir and Uber have shown the non-IPO financing model can work for years, but can it work forever? There are already some strains on the model. Startup financing deals involving firms that invest in both private and public companies fell 28 percent from the third quarter of 2015 to the fourth, according to research firm CB Insights.
It may be time for Kalanick and Karp to make their peace with the public markets. Yes, money has been in infinite supply for Uber, its Chinese rival Didi and a tiny minority of other hot startups. At some point, though, after the mutual funds and the hedge funds and the Chinese hedge funds and the Saudi government, even the brightest startups will run out of people to write them checks.