ENTREPRENEURS WHO dream of taking their firms public, potentially making themselves a fortune in the process, typically imagine an initial public offering (IPO). Although this is the most common route for a firm to become publicly traded, it is not the only one. A “special-purpose acquisition company”, or SPAC, is one increasingly popular alternative. A “direct listing” is another. Coinbase, an American crypto-currency startup, is planning a direct listing on the Nasdaq stock exchange in New York this month, and Roblox, a video-game platform, went public on the New York Stock Exchange the same way last month. But what exactly is a direct listing, and why is it increasingly popular?
A direct listing eschews many of the usual trappings of going public. An IPO serves two main functions: raising new capital for the firm in question, and providing a smooth entrance to trading on public exchanges. The process is managed by investment banks, which drum up the interest of investors, underwrite newly issued shares, find buyers for them and guarantee a floor for the listing price—but charge huge fees for the service, usually between 3.5% and 7% of the proceeds. The process also comes with restrictions such as the “locking in” of existing shareholders for a time before they are allowed to sell. But at times like the present, when firms, especially tech firms, find it easy to raise money in private markets, the hassle and expense of an IPO seem less appealing. Even after an IPO boom last year, in America there have been only around 125 IPOs a year, on average, over the past decade, against an average of 269 per year between 1991 and 2010.
Direct listings work differently: existing shares are simply switched to being tradable on an exchange. No new capital is raised, and few, if any, investor roadshows are organised. Direct listings also do not come with lock-ups, so existing shareholders can sell immediately (indeed, without any new shares, such sales are the only source of shares to new investors). The fees are much lower, too. Before the direct listing in 2018 of Spotify, a music-streaming service, the use of direct listings had been limited to a few types of business, (eg, entities investing in property) and sceptics worried that they might lead to price swings and volatility. Yet subsequent direct listings have gone smoothly, showing such concerns to have been overblown.
Direct listings are not about to replace IPOs. For starters, few young firms can afford to shun new capital. And there are even fewer that already have a relatively broad shareholder base, rather than a narrow one of select few large owners who want to offload their shares. Investment bankers argue that only firms that already have a well-known brand familiar to a broad range of investors and consumers can pull off a direct listing. Coinbase fits the bill; a specialty chemicals firm, for instance, probably would not. Still, direct listings are likely to continue shaking up the cosy world of IPO underwriters, making it easier and cheaper, at least for some firms, to go public.
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April 03, 2021 at 01:10AM
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