Europe’s tech IPO market: Where’s Santa?

Dec 10, 2015
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bulls-and-bears-flatlineJust when it felt like the market for European tech IPOs were opening, the events of the past few weeks have dashed those hopes.

Days after Deezer announced the delay of its initial public offering, HelloFresh drew the same conclusion.

In France, the only notable IPOs of late were Amundi and ShowroomPrivé. The asset management firm Amundi, which is not tech nor a small cap, made it out the gate only thanks to a consortium of underwriters that seemed to include Paris’ entire banking marketplace. ShowroomPrivé fared a bit better, though can hardly be characterized a resounding success. The stock price still sits below its initial 19.50€ level, but more worryingly, experiences daily trading volumes of less than 0.1%.

I’ve been skeptical of local tech IPOs since I began venture capital investing in France shortly after the dotcom bubble. My lens is quite specific: is an IPO an effective avenue to exit for a VC-backed portfolio company?

Let me be clear, I endorse the concept of the IPO. For some European tech companies, notably those with activities that are easily understood by the general public, an initial public offering can make sense. An IPO allows individual investors to participate in innovative companies and make a financial gain in a transparent way. The trouble is, most French individuals don’t. The vast majority of French households’ savings finds its way into either risk-free savings accounts or into vehicles created for tax incentives.

The best performer among European IPO exits with which I’ve been involved was a beautifully innovative and expertly-managed tech company that in the end returned a very satisfactory capital gain (I won’t mention the name so as not to run afoul of securities regulations). But here’s the rub: we took this firm public on the Paris Alternext four years after our initial investment, but could not fully unload our holdings until an additional five years after the IPO. We were not in a hurry. This company was (and still is) run by one of the best management teams in the business. They continued to deliver year-on-year, even during the lean periods when their sector peers faltered.

Yet despite consistently stellar financial performance, the firm’s stock price barely appreciated.

The problem: lack of sufficient trading volumes.

Insufficient liquidity in a publicly-traded stock is problematic for several reasons. It renders it difficult for a large shareholder, such as the original VC that backed the company, to sell off its holdings without adversely affecting the firm’s market capitalization.

Furthermore, it exacerbates the disconnect between a firm’s intrinsic worth and its pricing on the stock market. Without trading volumes, the stock price ceases to be an indicator of the value of the firm. The ensuing mispricing situation creates a conundrum for company insiders and outsiders. Insiders cannot sell; and outsiders are afraid to buy (why invest in a non-liquid asset whose very lack of liquidity obfuscates any capital appreciation potential?).

Without naming names, I submit that there are an abundance of zombie tech companies on the Alternext and even smaller compartments of the Euronext who find themselves in this quandary. Even in the cases where an international suitor comes with a potential acquisition offer, the parameters of a viable trade sale remain elusive. The stock price sits way below the water level of many inside investors, and there are limits on how high a stock market premium even the most motivated acquirer can justify.

I’ve speculated on the reasons for the liquidity problem in previous posts (lack of analysts, lack of a stock market culture). The truth is that I don’t have the answers. However, I believe that this represents a hurdle to a viable innovation ecosystem in Europe and warrants attention of private sector actors and policymakers alike.

An IPO is more a beginning than an end

True, taking a company public in Europe is a lot of work: there are a myriad of regulatory formalities and process, the state of general market appetite needs to evaluated, and most importantly, sufficient demand for the stock must be generated. On this last item, some of the best VCs actively play a dominant role which makes or breaks the success of the IPO.

All of these activities, albeit requiring substantial effort, are limited to the period up to and including the IPO event itself, however. They are somewhat under the control of the company and its shareholders (and its IPO advisors). The real proof of IPO success over time is whether, once publicly-listed, the company’s stock experiences sufficient trading volumes to reflect the company’s intrinsic value, i.e. the trajectory after the IPO.

The good news is that nowadays, both private sector and government actors in Europe are acknowledging the value of a healthy tech IPO market. Facilitating the path to IPO is without a doubt commendable. However, only when the market functions for companies over their lifetimes post-IPO can Europe’s tech IPO environment be considered truly healthy.