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The announcement that Arm had filed for an initial public offering and would likely soon begin a roadshow has IPO watchers giddy with hopes that a two-year drought is slowly coming to an end, particularly for tech unicorns. On the surface, it sounds promising. The current estimated valuation of the company is in the $60 billion range. If the company floats 10% of that, a typical value, the IPO would raise roughly $6 billion. That would make it the largest IPO since Rivian went public at $11.9 billion in November 2021. Unfortunately, Arm is not a typical example of the kind of “tech unicorn” that truly excites the IPO investor, and valuation pressures may still prevent many companies from going public. What will it take to get those long-in-the-tooth unicorns out the door, and what price will they have to pay to do it? Are the stars aligned right for an IPO takeoff? It’s an old saw: The most important factors for a strong IPO market are an up market and stable interest rates. If those are the primary metrics, the IPO market is not yet ready for liftoff. Are we in an up market? Long-term, yes: The S & P 500 is still up more than 15% this year, led by big-cap tech. Short-term, no. The S & P 500 is down 5% in August , largely due to a decline in tech. “The market’s recent pullback probably delayed some September/October deals, so Arm will be important as likely one of only a few large deals right after Labor Day,” Matt Kennedy, senior strategist at Renaissance Capital, told me. A bigger problem is the rise in interest rates, Santosh Rao, head of research at Manhattan Venture Research, told me. “Despite the pullback, risk-on-sentiment is still good, and volatility is still low,” he said. “What we really need is more visibility on interest rates.” Arm is not a tech unicorn What gets IPO investors really excited are tech unicorns: relatively early stage companies with high valuations, over $1 billion traditionally, that are disrupting their industries. The problem is that there is not much similarity between Arm and tech unicorns. First, Arm is an old company. It was founded in 1990 and was first listed on the London Stock Exchange and Nasdaq in 1998. It went private when it was acquired by Softbank in 2016. “I would not put this in the same category as Instacart, or Stripe,” Rao said. “Those are companies that are still disrupting their space. Arm is not.” He likened Arm more to Kenvue , the recent Johnson & Johnson health-care spinoff, noting that both are mature businesses. Kennedy agrees: “It’s worth noting that the vast majority of the tech IPO pipeline shares more in common with Instacart than Arm,” he wrote in a recent newsletter. Finally, there is the motivation for going public. This is not a company looking to go public to raise money for expansion. “This is not being driven by the company [seeking to raise money],” Don Short, InvestX head of venture equity, told me. “This is driven by a big shareholder that has their own motivation,” he said, referring to Softbank. “They want to get cash out to reinvest.” Then there’s the valuation problem An even more delicate issue is valuations. To be blunt, they are coming down, especially for tech-oriented companies. “If the public markets are compressing values, it makes it tougher to go public,” Rao said. “Even with a pullback, overall values are still high, especially in tech.” Here, Arm could make a big difference. Its implied current valuation of $64 billion is based on the 25% stake Softbank bought in Arm from Vision Group for $16 billion. But investors may balk at that valuation. If it prices significantly below that, it will send a further signal that haircuts will be necessary for other companies. That’s already happening. Look at payment company Stripe, an often-mentioned IPO candidate that competes against publicly traded companies such as Square, PayPal and Adyen. Stripe’s funding round (Series H) in 2021 valued the company at $95 billion. Its most recent funding round (Series I), in March, valued the company at $50 billion. What would happen if the company went public? “If Stripe would go public now, it might even be at a further discount to that $50 billion,” Short said, noting that even at a lower valuation there could still be a gap between its private valuation and what its public peers would trade at. If that is the case, it would deter a lot of companies: “I don’t think a lot of companies are prepared to make that leap yet.” It’s a tough choice: Negotiate onerous new rounds of funding with venture capital firms, or go public at a lower valuation. IPO candidates “are between a rock and a hard place,” Short said. “If you have a choice, and have positive cash flow, the right choice is to wait for better terms. But if you can’t, you either take another lower funding round or go public at a lower valuation.” Many companies still looking to go public “This won’t open the floodgates for tech unicorns,” Kennedy said. “For months we’ve predicted only a gradual pickup in deals, but especially now given the August sell-off.” Still, modestly rising markets and stable interest rates may be enough to push companies into the public markets, even if reluctantly. Likely candidates for the fall include Instacart, shoemaker Birkenstock, marketing automation firm Klaviyo, car-sharing firm Turo, marketing and ad monetization firm Rokt, supply chain management firm Flexport, fast-fashion China retailer Shein, and Waystar, which provides software for health-care billing. Because of the valuation issues, some of the very large unicorns such as Reddit, Stripe, Canva and Fanatics “are starting to look more like 2024,” Kennedy said. Arm still will set the tone on pricing Arm may not be the kind of tech unicorn that excites the market, but it’s big and its arrival soon will set the tone. That means pricing is important. That means they have to price it so it doesn’t flop. For IPO investors, that’s far more important than making sure Softbank collects a few extra bucks. “Big flops can shut down the IPO market, so it definitely matters to everyone,” Kennedy said. A “flop” would not be if Arm’s valuation was set lower. Nor would it be a flop if the final price of the offering was below the price range the underwriters set. A “flop” would be if it priced at, say, $20, and closed lower the same day, or was notably lower a short time later. And for once let’s take the side of investors. Lower prices greatly increase the odds that investors will make money over time in IPOs, which, because of high valuations, has been the exception rather than the rule in recent years. The poor retail investors who bought on the first day would actually have a chance of seeing their investments rise. Wouldn’t that be something?
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