San Francisco is likely to see something this week that neither it nor the Bay Area has seen in six months — an initial public offering by a local tech company.
Even if all goes well with Reddit’s offering, IPOs are unlikely to become as common in the near future as they were three years ago, market experts say. But many expect it could lead to a pick-up in offerings later this year, which could have big implications for the local economy and The City’s finances.
“I don’t believe this is a harbinger of a wide-open IPO market,” said Robert Siegel, a lecturer in management at Stanford Graduate School of Business. But, he added, “It could certainly help ... success begets success.”
As recently as three years ago, IPOs happened frequently in San Francisco and the wider region. On average, in 2019 and 2020, a city-based startup went public nearly every month. Across the Bay Area, about three went public every month, according to data from Renaissance Capital, a financial firm that closely tracks the IPO market.
That pace quickened in 2021, with about three San Francisco startups going public every two months and almost five per month across the region.
But the IPO market slammed on the brakes the following year and hasn’t rebounded since. When Reddit hits Wall Street this week, it will be only the second company of any kind based in The City to go public since the end of 2021 — following Instacart in September — and only the fourth tech company from the entire Bay Area, according to Renaissance Capital.
Excluding companies that went public at less than $5 a share, just 38 companies across the nation completed IPOs in 2022 and 54 last year, down from 311 in 2021, according to data compiled by University of Florida finance professor Jay Ritter. Just six of those in 2022 and nine in 2023 were tech companies, compared to 126 in 2021.
The 2022 tech IPO tally matched 2008 for the lowest ever since 1980, according to Ritter’s data.
The IPO slump, in part, can be blamed on the huge stock-market boom that immediately preceded it, market experts said. The stock market soared in 2020 and 2021 as the Federal Reserve slashed interest rates and pumped money into the economy to fight the recession sparked by the COVID-19-related lockdowns.
That sent company valuations relative to revenue or earnings through the roof and lured many startups — ones that generally wouldn’t have hit Wall Street in a more normal market — to go public. It also attracted investors eager to get an early stake in hot new public companies, no matter how unprofitable or immature they might be.
When the market started to fall in late 2021 amid rising interest rates, soaring inflation, geopolitical instability with the impending Russian invasion of Ukraine and fears of a recession, many of those newly public companies saw their stock prices get crushed.
Some went out of business completely, unable to raise new funds to make up for their ongoing losses. Others saw their shares delisted from the major markets because their prices or market capitalizations had fallen below market requirements.
Having swallowed major losses on newly public stocks, many investors lost their appetite for investing in IPOs, particularly by companies that were losing money and didn’t have the prospect of turning profits anytime soon.
The market for newly public companies “got really frothy” in 2020-2021, said Kristin Roth DeClark, global head of technology investment banking at financial giant Barclays.
“Investors don’t forget that,” DeClark said. “They know how much pain they were inflicted trying to get out of those positions.”
The run-up in public market valuations during that period led to a corresponding jump in the valuations of private startups, since their worth is often pegged to that of similar public companies. But while public-company values rise and fall on a daily basis with their stock prices, startup valuations are much more static, typically only getting adjusted when the company raises funds or authorizes a sale of stock by insiders.
Few startups that raised funds in the go-go days of 2020 and 2021 have wanted to go public at a valuation that would be lower than what it was then. A big part of the reason companies go public is to allow employees to cash in on stock options and their venture investors to get a return on their investments. But if a company goes public at a value less than it was worth when it handed out those options or sold shares to venture firms, neither will get to cash out in the immediate wake of the IPO.
On the flip side, public investors burned by what happened three years ago have been wary of overpaying for newly public companies, said Avery Marquez, an assistant portfolio manager at Renaissance, which provides exchange traded funds comprised of recently public companies.
Reddit executives, employees and investors know that tug-of-war well. The popular provider of online discussion forums raised $410 million at a $10 billion valuation in 2021. But in its IPO, it’s seeking an initial market capitalization of no more than $6.4 billion.
“Valuation has been and probably for the near term will continue to be a sticking point” for companies seeking to go public, Marquez said.
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Things have become more favorable for IPOs in recent months. The major stock indices have all rebounded from their 2022 lows. Inflation is down. Interest rates have moderated. Unemployment is still low. There are few fears of an imminent recession. And many startups have taken so-called down rounds in the private markets, agreeing to accept reductions in their valuations in exchange for new infusions of cash.
And, importantly, public investors appear to be regaining their appetite for IPOs. Renaissance’s IPO index, which helps measure the stock performance of recently public companies, rebounded last year, Marquez noted.
Meanwhile, there’s a big hole in the market for fast-growing tech companies. Of the 6,000 or so publicly traded companies, just 26 in the tech industry are valued at $2 billion or more and are posting annual revenue growth of at least 30%, according to DeClark.
“There is a massive scarcity of growth [companies] in the public markets currently,” she said.
Plenty of companies appear poised to go public whenever Wall Street opens the doors more widely. It’s hard to quantify just how many, but in San Francisco alone, there are 32 late-stage startups that are valued at $2 billion or more that haven’t raised a venture round in more than a year, according to PitchBook, a venture-industry research firm. That tally doesn’t include South San Francisco-based Stripe or OpenAI or Databricks, both of which raised money more recently.
A turnaround could benefit the local economy and government finances. The venture and startup ecosystem is highly dependent on successful IPOs. The money that venture investors make when their portfolio companies go public is frequently invested in the next generation of startups. Executives of startups that successfully go public often go on to become venture investors themselves. And the employees of companies that have successful IPOs often invest their proceeds in new businesses or go on to found their own.
San Francisco’s business taxes are determined in part by companies’ payroll expenses, including exercised stock options. If a greater share of their payrolls are in The City, thanks to successful IPOs that spur options exercises, they’ll pay more taxes.
More importantly, the founding of new startups in The City leads to new business activity and hiring, which means more revenue for San Francisco’s coffers, said Ted Egan, The City’s chief economist.
“The biggest thing [a successful IPO] does is it makes VC say, ‘wow,’” and start investing in the new startups, Egan said.
But don’t expect a rush for the markets just yet, even if Reddit has a particularly successful IPO, experts say. Valuations of many startups haven’t come down. Many investors are likely still gun-shy after what happened in 2022. Inflation is still elevated compared to the past few decades. Interest rates remain relatively high, making it more difficult to convince investors to put their money in a risky new offering when they can park their money in a bank and get a decent return.
“The signals are still mixed,” said Stanford’s Siegel.
And few companies are going to want to go public until other businesses go first and prove that there actually is investor interest in new offerings, Siegel and other experts say.
“Nobody wants to be the guinea pig,” Marquez said.
Reddit may help open things up, but only a little bit, experts said. That’s because the company is kind of an outlier — there aren’t many other businesses like it that operate a money-losing but widely used social-networking service and are still waiting to go public even though they’re nearly 20 years old.
Indeed, if not for the recent boom in artificial intelligence and the demand it’s created for unique content like that found in Reddit’s forums for training its language models, the company might not be going public at all, said Robert Hendershott, an assistant professor of finance at Santa Clara University.
“In the absence of the AI boom, it’s hard to say that Reddit would have been the company that would have burst out of the starting gates here in 2024,” he said. He continued: “We’ve seen a lot of companies like them that have fallen by the wayside.”
DeClark said she sees the market as still being in recovery mode. She expects about 20 tech IPOs nationwide this year. That would be more than double last year’s tally but still about half that seen in a more normal year.
After the dot-com bust in 2000 and the Great Financial Crisis in 2008, the IPO market took about three years to fully recover, Ritter said. The recovery from the 2022 bust seems to be following the same trajectory, meaning it should return to normal later this year.
Reddit’s IPO might help that recovery, but only a bit.
“I don’t think Reddit is going to be a real important bellwether,” Ritter said. “But certainly,” he continued, “a well received IPO will be a helpful sign that will encourage other tech companies to go public.”
