IPO market shows signs of life

By Matt Krantz, USA TODAY

Investors knew it would take awhile before the IPO market shook off the tech wreck. But not 12 years.

That's how long, though, it's taken for the initial public offering market to show signs of life after the dot-com IPO boom and subsequent spectacular bust.

After being almost comatose for years, the IPO market has hosted 63 deals this year and is expected to launch nine more this week, which would be the best start to a year since 2000, says Renaissance Capital. Add to that the biggest-ever technology IPO in Facebook -- which is expected next week -- and 2012 looks like the year IPO investors' bruises from the 2000 debacle may finally fade.

There's a huge pipeline of IPOs, says Kathy Smith of Renaissance Capital. There's lots to choose from for investors.

Even some entrepreneurs say the reception their IPOs are getting exceeded their expectations. It's a surprise how much demand and interest there was for the IPO of Infoblox, says CEO Robert Thomas. Shares of Infoblox, which helps companies find patterns in corporate data, jumped 33% their first day of trading in April.

The recovery of the IPO market has profound meaning not just for investors in newly public companies, but for the U.S. economy and all its participants. Since the stock market is a main pool of capital that allows companies to fund their expansion, grow and ultimately hire, a robust IPO market is critical to keeping money moving into new ideas. Venture capitalists, too, need a robust IPO market to allow them to cash in on their winners so they can move on to fund the next big idea.

The IPO market is regaining its swagger thanks to a bevy of fortunate coincidences working in concert to give investors the courage to step in and buy.

The strong stock market is perhaps the first prerequisite for an IPO recovery. The value of the Dow Jones industrial average, Standard & Poor's 500 index and Nasdaq composite index has roughly doubled from the low in 2009, notched during the financial crisis. Furthermore, the market's relative tranquility this year is a big help, says Renaissance's Smith. When investors are jittery about huge swings in the stock market, it's difficult for them to feel comfortable putting their money at risk on some of the potentially most volatile stocks available.

The resurgence of the IPO market coincides, too, with a second coming of Internet companies. As was the case in the last IPO boom, investors are dazzled by the seemingly endless opportunity of Internet companies. It was a social-networking stock, Theglobe.com, that kicked off the last IPO boom in 1998. Today, eyes are on big Internet and social-networking companies such as Facebook, Groupon and LinkedIn.

Not deja vu all over again

While the role of tech in both the IPO boom of today and the one ending in 2000 may be notable, IPO observers note that this renaissance is a different animal. Not only are the companies coming public much more seasoned than they were then, investors are much more skeptical.

The only thing in common between then and now is the word IPO, says John Fitzgibbon of IPOScoop.com.

Specifically, some of the key differences in the IPO market today from the boom time are that this time the deals are:

Still a far cry from the level of 2000. Having 63 completed deals so far is notable, since it's been years since that many companies have gotten out of the gate this early in the year. And the number of IPOs through April 2012, 58, is the highest during the first four months since 2000. Even so, the deal volume this year pales next to the activity in 2000, when more than 150 IPOs started trading at this point. And this year's IPO activity through Wednesday is a smidgen below the 66 completed IPOs through this point in May 2007, the last time IPO activity spiked higher before hitting rock bottom in 2008.

Coming from companies with better fundamentals. The companies coming public are much older and more financially sound than they were in 2000. Nearly 70% of the companies coming public today are profitable, Renaissance Capital says, while in 2000 just 30% of the companies with IPOs were making money. Additionally, companies coming public this year have been in business 26 years on average, which is twice the age of the average company making its debut in 2000. The bar is much higher, says Francis Gaskins of IPOdesktop.com.

Happening in a different marketplace. Large institutional investors, such as mutual funds and pension funds, drive the IPO market now as they did then. But in 2000, individual investors played a much more important role on the margins, says Gaskins. While individuals provided buying support for some household-name IPOs at first, such as Groupon, companies must now win over skeptical large investors who demand adequate returns. The market is very selective, he says.

Meanwhile, many of the smaller investment banks that were aggressive in bringing smaller companies public are gone now, as are some significant larger players, Fitzgibbon says. Firms including Alex. Brown, Montgomery Securities, Donaldson Lufkin & Jenrette, Lehman Bros. and Bear Stearns have vanished.

Subject to heavy discounting. Investors were battling each other to get IPO shares in 2000. Such intense interest caused the average IPO in 1999 to soar 72% on its first day. Many of those investors wound up overpaying and suffered losses as a result. Today, however, IPO prices are being slashed to lure in enough investors. The average IPO has gained 16% the first day. And more than 40% of IPOs have seen their share prices drop below their initial expected range, Renaissance says. That's the most discounting that has been done in the past 10 years, which is as long as Renaissance has tracked the data.

There is price sensitivity now, says Thomas of Infoblox, who took another tech company, NetScreen, public in 2001. Companies and their underwriters are pricing their IPOs at a level that may not attract speculators willing to pay top dollar, and flip, but investors willing to hold the shares longer term, he says.

Less reliance on a single industry. Roughly 60% of the IPOs in 1999 and nearly half in 2000 were tech or Internet-related, says Jay Ritter, professor of finance at the University of Florida. This year, 33% are, Renaissance says. While that's still a healthy percentage of the deals, there are also 23% from energy and 13% from financials.

Just the beginning?

Optimists say the IPO recovery might just be getting started. The current state of the IPO market resembles 1998, Fitzgibbon says, which was when leading companies such as eBay were testing the IPO market. If top companies go public this year, hold onto their gains and make investors money, expect investment bankers to keep feeding the fire, he says.

There's a huge backlog of companies that have been waiting for precisely this moment and are ready to pounce, Smith says. Demand only continues to mount as investors make money on IPOs. The FTSE Renaissance US IPO Index, which tracks the performance of IPOs for the two years following their first-day closing price, is up 10% this year. That's a solid return, topping the Standard & Poor's 500 index's 7.7% gain.

Some are skeptical, though, that the IPO market can ever return to its heights of 2000. The 152 yearly average number of IPOs from 2000 through 2010 is well below the average of 420 from 1990 through 1999 and even the average 266 from 1960 through 1969, Ritter says.

There have been systemic changes in the ways companies' founders seek to cash in their fortunes, Ritter says. Rather than incurring the costs of going public, many smaller companies see being bought by giants as the end game, Ritter says.

Different kind of bubble?

Selling to a rival can be more profitable, because it saves the smaller company the expense of building its own administrative capabilities, such as a legal department or human resources unit, he says.

Instagram, the online photo software company Facebook bought this year for $1 billion, is an example of a company that might have gone public in another era. There's a bubble, but it's not in the public market, Gaskins says.

Even so, the public markets can offer prices other companies cannot pay or are unwilling to pay, making the IPO still a big draw, Renaissance's Smith says.

If companies continue to successfully go public, it's only a matter of time before others will follow, Fitzgibbon says.

The good stuff has to really get rolling. If they make it, the competitors come, and that's when the market really gets going.

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