A Blog by Jonathan Low

 

Sep 1, 2021

Why High Profile IPO Companies Are Choosing Direct Listings

In 2021, to date, an historical record amount of capital has been raised. But a growing number of high profile - and profitable businesses have chosen to go public via direct listing rather than a traditional IPO. 

The time needed for preparation and regulatory oversight required is lessened, as are the substantial fees that banks demand for IPOs. This provides the listing company with more control, flexibility and cash. And the performance of those following this route have enjoyed an average share price rise of almost 65%.

Maureen Farrell reports in the Wall Street Journal:

Direct listings have outperformed the S&P 500 and a key broader index for initial public offerings.The companies that have chosen this method have been some of the largest and most high-profile. Companies that choose this route tend to be in solid financial shape. Volatility on the first day of trading has been similar to traditional IPOs.They limit the lucrative fee pool that comes with large IPOs: banks can share fees of $100 million. In direct listings, companies pay slimmer ones, in the tens of millions for similar size deals.

Eyewear maker Warby Parker Inc. last week became the latest company to file paperwork with the Securities and Exchange Commission for a direct listing, illustrating the staying power of the alternative path to public markets for companies that don’t need to raise money.

The still relatively small group of companies that have made their debuts on U.S. exchanges through direct listings have, on average, outperformed the S&P 500 and a key broader index for initial public offerings during the same period, according to an analysis by University of Florida finance professor Jay Ritter.

‘It reflects the fact that the group that’s chosen to do direct listings is a really high-quality group of companies.’

— Prof. Jay Ritter, University of Florida

“It reflects the fact that the group that’s chosen to do direct listings is a really high-quality group of companies,” Mr. Ritter told The Wall Street Journal.

In a direct listing, a company simply starts trading on an exchange on a set day. There is a reference price for where trading could start, but no shares are sold in advance at that price. Existing shareholders can sell their shares, but companies don’t raise any cash by going public. In general, companies that choose this route tend to be in solid financial shape because they don’t need to raise capital through a traditional IPO.

Mr. Ritter compared the performance of eight of 10 companies that have used direct listings—including cryptocurrency exchange Coinbase Global Inc., COIN -1.39% data-mining company Palantir Technologies Inc. PLTR 2.25% and streaming platform Spotify Technology SA SPOT 0.52% —to the performance of the S&P 500 and the Renaissance Capital IPO ETF as a benchmark for IPOs overall. Direct listings have an average rise of 64.4% from their opening trading prices to Friday’s close, while the S&P 500 had a 26.8% return and the Renaissance index rose 31.1%, according to Mr. Ritter’s calculations.

In his analysis, Mr. Ritter didn’t include two companies that have been acquired—Slack Technologies Inc. and Watford Holdings Ltd.—but both companies sold at a significant premium to their initial trading prices.

Direct listings still make up only a small part of the public-offering market. Since Spotify pioneered the method of listing in 2018, nine other companies have followed its lead. But it hasn’t upended the IPO market. This year, 279 companies have already raised $104 billion on U.S. exchanges through traditional IPOs, the highest volume on record year to date, according to Dealogic. Still, bankers and lawyers say that beyond Warby Parker, many more companies are weighing direct listings in the coming quarters.

The companies that have chosen this method have been some of the largest and most high-profile. Historically, these companies would have had no other option but a traditional IPO. While companies that engage in direct listings don’t raise new money on exchanges, they also use banks in a narrower role, limiting the lucrative fee pool that usually comes along with large IPOs. In typical big IPOs, a dozen banks or more can share fees of $100 million. In direct listings, companies still pay fees—but slimmer ones, often in the tens of millions for similar size deals.


In direct listings, companies typically choose a handful of banks at most that act as advisers, rather than underwriters that can stabilize IPOs after they start trading. The process has been relatively smooth for companies that have chosen the direct-listing path.

Mr. Ritter calculated that of the 10 direct listings to date, the volatility on the first day of trading measured by the high and low difference in relation to the closing price has been similar to traditional IPOs. He calculated volatility by comparing the average of direct listings to other IPOs he selected based on similar offering dates and tech stocks.

“I haven’t heard of a company who has done a direct listing who has expressed regrets about doing it,” said Mr. Ritter.

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