Thinking of Going Public?

The market may love LinkedIn and Pandora, but chances are, it feels very differently about you.

Peter Arkle

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Peter Arkle

Earlier this year, Steve Schklair, CEO of 3ality Digital, instructed his finance department to start keeping the books as if he had to present quarterly reports to Wall Street. The reason? The CEO of the Burbank, California-based business, No. 378 on this year's Inc. 500, intends to go public. Last year, he rang up $21.4 million selling 3-D camera equipment and technology used in Hollywood blockbusters like The Hobbit: An Unexpected Journey and The Amazing Spider-Man, a more than 900 percent increase from 2007. As 3-D entertainment becomes more commonplace, he believes, 3ality's revenue could hit $1 billion. "As soon as Wall Street stops asking whether 3-D's a fad, it's time to IPO," Schklair says. He figures he will get his shot within the next three years.

Schklair will probably have to wait longer than that. Wall Street may have rediscovered an appetite for stock offerings. But investors have a very definite idea of what they want—and it doesn't look much like 3ality does today. These days, most institutional investors will hardly consider a company with less than $100 million in revenue and a valuation of at least $500 million—far higher than ever before, says Kathleen Smith, a principal at Renaissance Capital, which researches and manages investments in newly public companies for institutional clients. And that's just to get a foot in the door. Investors also want some assurance that these would-be IPOs are recession proof. That goes a long way toward explaining why most of the recent IPOs have been in the social networking, green-energy, and health care industries, all of which have grown even as the overall economy has stalled. "There's a frenzy for the Pandoras and LinkedIns, because they are doing something new, something structurally different," Smith says. "But fear still prevails."

Many founders have decided against going public—long considered the moment of arrival for young companies—and are casting their lot with private investors instead.

Despite the uptick in offerings—including LinkedIn's headline—grabbing $352.8 million IPO in May—it's still a buyer's market. Sixty-seven companies have gone public so far this year in the U.S.-compared with 109 in all of 2010 and just 48 in 2009. But there are still 106 companies that have announced their intention to go public, seeking a total of $20.4 billion, according to ThinkEquity, a San Francisco-based investment bank. A good number of those companies have yet to line up investors. "Last night, I had dinner with a friend in the cloud-computing business," says Tom Taulli, a tech consultant based in San Jose, California. "He had a glum look on his face. He'd just raised $40 million but doubted he'd be able to go public until 2013. And who knows if this IPO market is going to last?" So much for the frothy bubble that many observers have been fretting about.

No surprise, then, that many founders have decided against going public—long considered the moment of arrival for young companies—and are casting their lot with private investors instead. Take Robin Richards. In 1999, Richards's company, MP3.com, raised more than $344 million in a public offering just a year after it opened its doors. And how did that all turn out? In the wake of the dot-com bust, MP3.com was sold to Vivendi Universal in May 2001 for $5 a share—$23 below its IPO price. "There's pretty much no reward that could stimulate me to go public," says Richards, who now leads the job-search and social networking site TweetMyJobs.com. Richards says he's much happier working with companies that do not have to alter their strategies on a quarterly basis to meet Wall Street's expectations. Technology companies in particular, he says, require room to explore, experiment, and make adjustments—space that isn't afforded by Wall Street's increasingly reactionary trading culture.

Bob Parsons, CEO of Web-domain registry Go Daddy, has a similar outlook. Parsons has toyed with the idea of taking his company public; in 2006, he went so far as to file notice with the Securities and Exchange Commission. But in July, he decided to sell a majority stake to three private equity firms, for a reported $2.25 billion. Parsons will continue as executive chairman of the board and the single largest shareholder, but the new owners will decide when it's time for Go Daddy to go public. Should an IPO happen, Parsons won't be the one leading the charge. "I'm too much of a free spirit, an individual who likes to carve his own way," he says. "I've never been associated with a public company; I have no experience at one. You could call it fear of the dark, the bogeyman."

Decades ago, even small companies could raise public capital if they had healthy financials and a clear growth trajectory. In 1996, for example, 200 companies with revenue of $10 million or less went public; 41 of them had revenue of less than $100,000. In 1986, a landmark year for IPOs, even Oracle, one of the biggest names to go public that year (Microsoft and Sun Microsystems also went public in 1986), raised just $31.5 million, after recording $23.2 million in revenue the year before.

Today, Oracle's offering would be a blip on the radar. The 67 companies that had gone public as of mid-July raised an average of $360 million, according to data compiled by ThinkEquity—up 106 percent from the same period in 2010. LinkedIn raised $352.8 million when it went public, and was valued at more than $4 billion. Gaming company Zynga, which filed for an IPO July 1, seeks to raise $1 billion.

Both of those companies are in hot industries. They also had achieved considerable scale before testing the public waters. LinkedIn had revenue of $243 million when it filed. Zynga's revenue tops $597 million. Lots of other companies, and their investors, don't have the patience to wait that long before their liquidity events. As a result, entrepreneurs at small and midsize companies are choosing to sell to larger, strategic acquirers. That has removed a lot of hot start-ups—outfits that probably would have gone public a generation ago—from the IPO equation. Some notable examples: the personal finance website Mint.com, which was acquired by Intuit in 2009 for $170 million; Zappos.com, which was acquired by Amazon.com in 2009 for nearly $900 million; and, more recently, Admeld, a Web advertising firm, which was acquired by Google for $400 million in June.

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