The Horizon for Tech Exits — Impacts of the Global Health Crisis on IPOs and Acquisitions
Impacts on corporate VCs activity and M&A
The quarantine is having a huge impact on all of our lives. Clearly, there will be personal and business consequences during this period, but hopefully a structured response to the virus will minimise the negative effects.
However, one of the positive sides of being under quarantine is having more time to investigate a wide variety of topics such as the impact of Covid-19 on initial public offerings (IPO) and acquisitions — both common exit strategies for all tech start-ups.
2019 was a prolific year for successful venture-backed exits — including IPOs, buyouts and acquisitions. Total value of exits hit a record of $256.4 billion across 882 deals, nearly doubling the $130.2 billion reached in the previous 12 months; a record on its own at the time.
In an unusual way, IPOs accounted for 78% of the total value of the 882 deals, equivalent to $198.7 billion. This vast figure was higher than the previous four years combined, mostly driven by the hefty valuations of Uber, Lyft and Slack, collectively contributing to $112.5 billion, despite the subsequent weak reception that they were reserved by public investors. Overall, there were 54 exits valued at more than $500 million.
Source: PitchBook Data
However, excluding a few outlier IPOs, the vast majority of tech founders now exit their businesses via acquisitions. The reason for this is that generally the supply of private capital available to companies has surged, while investors’ concerns around performance from the traditional equity markets have escalated. As a result, the average tech company age in a IPO rose from 3 years in 2001 to 13 years recently.
It is also worth noting that much of the undoubtful hyper-growth in the private capital market can be attributed to the activity of corporate VC.
Historically, factors such as business and capital market uncertainty have frequently resulted in companies reviewing their strategic plans over the short term, therefore let’s analyse how the exit framework of tech companies may change amid the chaos caused by the global health crisis.
Impacts on corporate VCs activity and M&A
It was reasonable to forecast another record year for VC financing driven by corporate venture capital arms, with the likes of Google Ventures, Intel Capital and Cisco Investments remaining highly committed to the game, but this trend will almost inevitably change in 2020. Corporate VCs are now expected to be less active as they are usually directly tied to the corporate parent’s balance sheet, while VCs have committed capital from LPs to deploy.
That said, the longest bull market in history created an environment in which many strategic acquirers/investors have become uncomfortable with unprecedented high valuations.
At the same time, publicly traded US corporations still have c. $1.5 trillion cash on their balance sheets, meaning that, despite the coronavirus outbreak, large corporate VCs may still find it advantageous to deploy capital. All in all, the health crisis has already started to show early signs for CVC-backed funding, receding quite dramatically in 1Q20, falling 13% versus the $34B registered 4Q19.
In the meantime, the overall value of worldwide M&A activity in 1Q20 fell 28% from last year (totalling just $698 billion in the first quarter of 2020). The financial impact of the coronavirus is likely to be more severe for smaller players, while cash-rich corporate titans are well-equipped to remain active.
For strategic buyers with substantial cash on hand, the market disruption may create good opportunities to pursue transactions that create long-term value, as deals closed during weak economic times usually translates into more value for both dealmakers and their shareholders. In addition, the significant and sudden decline in market values may turn the M&A pipeline towards more rescue deals, restructurings with some companies to consider sales, with shareholder activism and financial pressures being key factors in this process.
In the recessions of 2001 and 2008, there was a clear trend towards the strong in the sector getting stronger, especially in the tech industry. Central to this process was the confident and assiduous execution of strategic acquisition strategies. On the flip side, vulnerable companies should prepare for possible activism by reviewing their takeover defences, assembling a team of experienced advisors, and staying close to key shareholders.
Impacts on IPOs
What began as a year of optimism for global IPO activity quickly turned into a gloomy first quarter of 2020, characterised by serious economic uncertainty and acute stock market volatility.
This means that the ‘dual track’ opportunity of an IPO for late-stage tech companies, which often featured in the climate that preceded Covid-19, has likely receded. With central banks worldwide slashing interest rates amid negative revision of GDP forecasts, IPO candidates face an unprecedented period of uncertainty ahead.
As the economic impacts of COVID-19 became clearer in recent weeks, financial markets around the world have plunged. As of today, the S&P index is down 20% from its peak; somewhat recovering from the -34% reached in March, a fall which hadn’t been experienced since the global financial crisis of 2008.
The implicit drop in the valuation multiples attached to listed comparable peers will deter many potential companies from coming to market, amid fears they will only be able to attract a dissatisfactory price for their equity.
In this context, some companies have already announced their plans to postpone their IPO, including Warner Music Group and Cole Haan. And some of the IPOs that were most heavily hyped in 2020 have already run into trouble.
Airbnb, one of the world’s most richly valued private companies, has also experienced massive difficulties due to the coronavirus. Airbnb 2020 IPO prospects — privately valued at $31 billion in its last funding round in 2017 — have dimmed dramatically because of the impact that the coronavirus is likely to have on the financials it discloses when it goes public.
On top of it, the company has recently announced to have raised $1 billion from private equity investors, as it faces financial constraints due to the devastating impact of the coronavirus pandemic on the global travel industry.
Meanwhile, the digital brokerage Robinhood, another hotly anticipated IPO, is also facing its own set of problems caused by the global health crisis. A series of technical outages keeping users sidelined during market rally have been problematic for the company.
This issue has seen many of the customers of Robinhood stock app threaten to close accounts, defect to rivals, and even sue the company. In response, Robinhood has recently emailed users to apologise, reassuring them that it has repaired engineering issues that caused the outages.
The current market volatility has increased the doubts about the company’s future, brought their app under further scrutiny, and casted a shadow over Robinhood’s lofty $7.6 billion valuation — reached in the latest private funding round.
The current market uncertainty and the anticipated deep economic recession are likely to hinder the ongoing growth trend of tech exit deals, but this may change relatively quickly when current market volatility and risk aversion driven by COVID-19 dissipates, at which point investors will re-focus on market fundamentals.
In the meantime, the derating of valuations and multiples attached may generate a rotation of capital from the IPO market to acquisitions and private investments, which will particularly benefit well-capitalised corporates with adequate cash reserves and strong balance sheets.
Private investors with substantial capital to deploy are also well positioned to benefit from reduced valuations (e.g. Silver Lake recent investment in Airbnb), positioning themselves to generate sizable returns once the economy recovers and accelerates out of the recession.
This article was originally published on medium.
Early-stage investor focusing on FinTech, AI and Future of Work/Life. Previously Equity Associate at Jefferies and Financial Analyst at Bloomberg. Futurist Junkie | Sport Enthusiast | Lived in x5 Countries