Peter Goldstein is the CEO of Exchange Listing, an advisory firm that counsels high-growth companies to list on senior stock exchanges.
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In 2024, numerous companies have indicated their intentions for forthcoming IPOs. With several big-name companies such as Reddit, Shein, Stripe and Rubrik all reportedly making IPO preparations, we’re likely to see a surge in companies going public.
Many of these companies have valuations in the billions of dollars. However, an IPO is more than just a fundraising event. It represents a significant shift in a company’s journey, bringing with it heightened public scrutiny, regulatory compliance and a broader shareholder base. This transition also provides liquidity opportunities for early investors and often brings greater prestige and market visibility to the company.
Below I’ll share a brief history of IPO investing in the U.S. and how it’s changed in recent years, as well as some best practices for retail investors who are new to this space.
The Historical Roots Of IPO Investing
The 19th century witnessed a proliferation of IPOs stemming from the industrial revolution. Railroads, in particular, used IPOs to fund the construction of vast railway networks. This period marked the transition of IPOs into tools for broader industrial and economic growth.
The stock market crash of 1929, however, served as a wake-up call about the need for more stringent regulation in financial markets. This crash, marking the onset of the Great Depression, exposed numerous weaknesses in the market, such as rampant speculation and insufficient investor protections.
In response, Congress passed the Securities Act of 1933 to ensure more transparency in financial statements so investors could make informed decisions. It required security issuers to register their offerings, providing detailed information about their business, the securities being offered and the risks involved.
The Securities Exchange Act of 1934 was built on the foundation laid by the 1933 act. While the former regulated the initial issuance of securities, the 1934 act focused on the secondary trading of those securities. This was crucial because most investors participate in the securities markets through the buying and selling of stocks on exchanges.
One of the key provisions of the 1934 act was the establishment of the Securities and Exchange Commission as a permanent federal agency tasked with enforcing federal securities laws. The SEC was given broad authority over all aspects of the securities industry, including the power to regulate stock exchanges.
These regulatory reforms had a lasting impact on the process of issuing IPOs. The enhanced transparency and reporting requirements increased investor confidence, which is crucial for the success of IPOs.
The Evolution Of IPOs In Contemporary Market Dynamics
Historically, the IPO process was dominated by large corporations and underwritten by major investment banks, which guided companies through the complexities of going public. However, with the rise of retail investors and online trading platforms, the landscape of small and microcap companies has evolved significantly. The prominence of small ($300 million to $2 billion) and microcap (under $300 million) IPOs, characterized by companies with relatively lower market capitalization, gained significant traction in the late 20th century and early 21st century.
In the U.S., the Jumpstart Our Business Startups Act of 2012 played a notable role. The JOBS Act aimed to encourage funding of small businesses by easing certain securities regulations, making it more feasible for smaller companies to go public.
Subsequently, companies in technology, biotech and other sectors found new opportunities to access public markets, diversifying the IPO landscape. This diversity in IPOs and the rise in retail investors have brought a new dynamic to the market.
Best Practices For Investing In IPOs As A Retail Investor
IPO investing today is markedly different from what it was even a decade ago. The rise of digital platforms, the increasing influence of retail investors and the global nature of today’s markets mean that the strategies that worked in the past may not work as well today.
The key to navigating this landscape is flexibility and a willingness to adapt to new information and circumstances. Retail investors should conduct thorough due diligence, focusing on a company’s fundamentals, valuation, management and market conditions.
IPOs can offer significant returns, but they come with their own set of risks. To help mitigate risks, investors should watch for red flags such as overvaluation, unclear business models or inexperienced management teams.
Investing in IPOs requires a balanced approach, combining excitement for new opportunities with a disciplined analysis to identify truly promising ventures. Below are best practices for IPO investing:
1. Understand the company’s business model. Investors should look for companies with clear, sustainable paths to profitability and growth. Aside from thoroughly reviewing the company's prospectus and understanding its products or services, it’s important to consider its market potential, competition and revenue streams.
2. Assess the company’s financial health and IPO valuation. This involves analyzing financial statements for revenue growth, profit margins, debt levels and cash flow.
Equally important is to evaluate whether the IPO is priced fairly. Comparing the company’s valuation with established players in the same industry can provide insights into its potential overvaluation or undervaluation. High valuations without corresponding fundamentals are a red flag.
3. Review the management team and its track record. Look for experienced leaders with proven track records of success. The team’s ability to navigate challenges and execute strategy significantly impacts the company’s future growth.
4. Consider market sentiment and timing. Market conditions at the time of the IPO can greatly affect its immediate performance. A bullish market may provide a favorable environment for IPOs, but it’s essential to discern hype from sustainable interest. Be wary of IPOs that are heavily promoted or surrounded by excessive media buzz without strong fundamentals to back them up.
While the IPO landscape has changed, one thing remains certain: The opportunity for growth and success in IPO investing is abundant for those who are prepared. By embracing a forward-looking mindset, adapting to changes and maintaining a strong foundation in investment principles, investors can navigate this dynamic landscape with confidence.
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