IPO Dot-Com Bubble Echo Seen Muted as Older Companies DebutLeslie Picker and Ari Levy
Not many chief financial officers know what it’s like to see their companies double in value in one day. Peter Bardwick has seen it twice.
Bardwick was CFO of online financial news site MarketWatch Inc. when it started trading on Jan. 15, 1999, at $17 per share. By day’s end it hit $97.50 for a market value exceeding $1 billion. Fourteen years later, on Sept. 20, 2013, Bardwick, 55, was CFO of digital-advertising firm Rocket Fuel Inc. when it rose as much as 116 percent on its first day of trading.
With last year’s debuts from Twitter Inc. and Zulily Inc. also helping send U.S. IPOs to their biggest first-day gains since 2000, warnings of another asset bubble are again echoing across Silicon Valley. The Nasdaq Composite Index’s 38 percent climb in 2013 and Facebook Inc.’s agreement last month to spend $19 billion on messaging service WhatsApp Inc. have only added to concern about an eventual crash.
Still, some investors, bankers and venture capitalists say the old refrain that “this time is different” is actually true in 2014, because companies going public these days are older, larger and are offering shares at a more reasonable valuation. IPOs at the height of the dot-com bubble in 2000 were sold at a median price-to-sales ratio of almost 6 times last year’s level, according to data compiled by Jay Ritter, a finance professor at the University of Florida. The companies that debuted last year were twice as old on average and posted first-day gains that were less than a third of those in 2000, the data show.
“Investors have become more discriminating and more focused on the individual businesses,” Bardwick said by telephone from Rocket Fuel’s Redwood City, California headquarters. “In the ’90s, everything was just going up, and when that stopped, it happened in a really bad way.”
MarketWatch, a site for business news and personal-finance commentary, never exceeded its opening-day value, falling to a low of $1.26 in 2001 before selling to Dow Jones & Co. in 2005 for $18 a share. At a closing price of $53.97 today, Rocket Fuel is trading at almost double its IPO price.
Last year, 208 companies went public, raising more than $56 billion in the U.S., the most since 2007, data compiled by Bloomberg show. Companies seeking more than $100 million in their U.S. IPOs surged an average of 21 percent on their first day of trading, the biggest annual increase since 2000.
People who argue that this time is different “have a vested interest to ensure the investing trend continues,” said Ian D’Souza, an adjunct professor of behavioral finance at New York University who co-founded a technology-focused equity fund.
“The real question is whether a crash will occur now or after the markets rise another 30 percent,” he said. “This is precisely because bubbles are a combination of psychology and liquidity.”
The dot-com bust began when the Fed raised interest rates in late 1999, slowing the economy and denting growth prospects for Internet firms. Established technology firms such as Microsoft Corp. and Dell Inc. slashed their financial targets, further setting off alarms to investors in the new Internet companies. Shares started to fall in March 2000 as earnings and sales expectations -- often set on metrics such as web traffic - - eventually became too high for many dot-com companies to meet.
By the end of 2004, 52 percent of dot-com startups that sought venture capital were no longer in existence, according to research by the University of Maryland and the University of California at San Diego, among them Pets.com and Webvan.com.
Too much has changed since to put the IPO market in danger of imploding now, some analysts and investors say.
While median valuations have been rising since 2008, firms are coming to market at a fraction of the levels seen during the dot-com period, Ritter’s data show. IPOs were priced at a median of 30 times sales in 2000, compared with 5.2 times last year, the data show.
MarketWatch traded at 46 times 1999 sales on its first day, while Rocket Fuel’s valuation was 7.6 times 2013 revenue.
Valuations during the technology bubble were often “fairly abstract” as companies didn’t have significant revenue or earnings, said Ted Tobiason, who worked through the bubble at Internet-focused Robertson Stephens & Co., beginning in 2000. He now heads equity capital markets for the technology industry at Deutsche Bank AG in San Francisco.
Companies doing IPOs today are older, with revenue and earnings track records that allow banks to use more fundamentals in setting valuations, said Ritter. Businesses backed by venture-capital or private-equity firms were on average 12 years old in 2013 when they went public, compared with four years during the dot-com era, according to Ritter’s research. Twitter was seven years old at its IPO.
They’re also bigger. The median revenue for companies going public in 2000 was $17 million compared with $109 million in 2013, adjusted for inflation, his data show. The average number of IPOs of small companies -- those with less than $50 million in annual revenue -- declined 83 percent in the period between 2001 and 2012, from 1980 to 2000, Ritter’s data show.
Ritter’s research does not include IPOs of real-estate investment trusts, special-purpose acquisition companies and American depositary receipts.
Today’s startups have been able to delay IPOs, receiving repeated rounds of funding from hedge funds, private-equity groups and other institutional investors flush with cash in a low-yield environment.
“You want to make sure you have a company of reasonable scale before you go public, which ensures much more certainty in the planned financial results,” said Doug Leone, a managing partner of venture-capital firm Sequoia Capital, based in Menlo Park, California.
The high cost of going public is also a deterrent to young companies considering an IPO, making the types of companies going public more stable, said Ritter.
The Sarbanes-Oxley Act, passed in 2002, requires extensive financial disclosure, increasing the cost spent on auditors and legal work. In 2012, companies spent an average $3.7 million on IPOs, not including underwriters’ fees, a PricewaterhouseCoopers LLP report said.
“There’s just a much higher bar today to do what you have to do to comply with various rules and disclosure requirements,” said Ron Codd, a consultant to companies on the IPO track, who has been involved in 13 offerings, including Rocket Fuel’s, since he helped take Wyse Technology Inc. public in 1984.
Another roadblock for small companies: The boutique banks that underwrote many of the Internet IPOs in the 1990s don’t exist independently today. They were known as the “Four Horsemen” -- Hambrecht & Quist Group, Montgomery Securities, Alex. Brown & Sons and Robertson Stephens.
Today, technology IPOs are underwritten by the larger banks, which tend to decline underwriting IPOs of smaller companies, said Ritter. And those companies may opt against going public knowing the banks may not assign an analyst to cover the stock of a tiny firm.
None of these factors is preventing companies from capitalizing on the environment, yet the shadow of the dot-com bust lingers, said Tobiason.
“Now in the Valley, the idea of a bubble is a practical conversation,” he said. “It’s a healthy discussion, which gets people to think about risk and not just potential upside.”