IPOs Are Back in a Big Way This Year. Should You Invest?
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While many private companies refrained from going public in the last couple of years due to a short-lived bear market and high interest rates, IPOs are coming back in a big way.
A cohort of recognizable companies have gone public or plan to in 2024, presenting investors with an opportunity to profit on newly listed stocks. But this time, special purpose acquisition companies, or SPACs, won't be coming along for the ride — at least not in their previous form.
SPAC mergers, one special type of IPO, were a reckonable force on Wall Street at the start of the decade. These public listings take place by merging private companies with SPACs, a type of publicly-listed shell company — a term for a corporation without significant business operations or assets that's formed to secure financing. The private (or target) company then becomes public by assuming the ticker symbol held by the SPAC.
These mergers became popular among companies that wanted to go public quickly, as SPAC mergers are faster than traditional IPOs or direct listings. They also became popular with investors because an SPAC that could find a particularly attractive private company to merge with could produce sizable profits. If that company failed, investors would receive their investment back. So, in the early 2020s as the number of retail traders grew, so too did the number of SPACs seeking private corporations to take public.
However, as IPOs are seeing a resurgence this year, SPAC deals are likely to fall into obscurity thanks to a string of recent failures and regulatory policies.
What is an IPO?
IPOs are one of the most popular ways for private companies to become publicly traded. Traditional IPOs involve considerable paperwork and corporate scrutiny by the Securities and Exchange Commission, after which underwriters selected by the company set the price of the company’s stock. On a set date, that IPO stock becomes available on the stock market, making the company public.
Over 6,000 companies have gone public through IPOs since 2000. A record 1,035 of those came in 2021 alone, with companies like Coinbase, Robinhood and semiconductor producer GlobalFoundries going public and raising billions of dollars in cumulative capital. Perhaps more surprising is the fact that SPAC IPOs outnumbered traditional public offerings; almost 750 of the IPOs that took place that year were SPAC mergers.
The SPAC merger process entails the use of a shell company registered with the SEC and traded on the stock market with the express purpose of buying a private company, making that private company tradable through the merger and undergoing the resulting “de-SPAC” phase, which transitions the shell company's stock into shares of the target company.
These types of offerings have different stakes involved; investors will often buy shares in SPACs before they even have a company to merge with. Lots of trust is put in the names associated with these shell companies that will use investor capital to build hype around a forthcoming IPO.
Why SPACs are risky
According to the Financial Industry Regulatory Authority (FINRA), SPACs usually have 18 to 24 months to close an acquisition of a target company. If they fail to do so, the SPAC is dissolved and funds are returned to investors on a pro rata basis determined by the net of costs and fees which, which can add up to substantial losses.
Even after the target company undergoes the SPAC merger process, elevated risk remains. Companies that went public via SPAC merger in the past four years have experienced shocking rates of failure. Last year's IPOs were marred by the failures of SPACs. According to data compiled by Bloomberg, at least 21 companies that went public in 2023 via SPAC merger went bankrupt, accounting for more than $46 billion in lost equity.
Part of the failure is due to how SPACs had the ability to provide financial projections based on non-public information, something the SEC doesn't allow with traditional IPOs. This resulted in companies overinflating valuations and investor expectations. Looking back farther, the situation is even more dire. Of the companies brought public by SPACs between 2020 to 2022, 277 or approximately 32% have been dissolved, which is about double the historical rate before 2020 based on data from Valuation Research Corporation, an independent valuation and advisory services firm.
IPOs are coming back, but will SPACs follow?
For the last two years, though, all types of public offerings have fallen out of favor. Higher interest rates brought on by the Federal Reserve’s hikes discouraged companies from going public, because higher rates eat into earnings growth potential. For most investors, risk appetite had fallen as a result of inflation and market volatility, leading fewer to take a chance on a newly listed company. As a result, the number of new SPACs mergers and traditional IPOs dropped significantly since early 2022.
However, the economy today looks quite different from 2022, and IPOs are starting to come back. For one, the Fed’s interest rate hikes have been successful in alleviating inflation and slowing the economy. And while there's ambiguity around when the Fed's first rate cut will come, the strengthening provided by the central bank's policy thus far has allowed more money to flow back into stocks, setting the stage for an IPO resurgence.
Since late 2023, more companies have been going public and importantly, doing so successfully. Semiconductor manufacturer Arm’s September IPO, for example, saw the company raise over $5 billion in a single day. Sandal maker Birkenstock raised over $1 billion a month later. Those two companies have seen their stock rise 122% and 29%, respectively, since their IPOs.
In 2024, there have already been over 30 IPOs. But despite more favorable economic conditions, it’s less likely that SPACs will bounce back the same way. That’s because in January, the SEC approved a set of regulatory SPAC changes that throw cold water on the entire practice.
The SEC now requires target companies to register with the SEC themselves rather than co-sign with the SPAC, and it also requires much more in-depth disclosures from the companies about conflicts of interest, stock dilution and details of the post-merger transition, among other conditions. These changes are meant to protect the investor above all by pulling the curtain back further on these deals. But they further complicate the already-complex process, therefore making it unlikely that SPACs see the same resurgence being experienced by traditional IPOs.
2024 stock IPOs: Reddit and more
This year is likely to see an uptick in IPOs as the recent risks associated with going public continue to fade. Many investors had embraced risk-off strategies resulting in increased cash on-hand, and with the broad market moving in a more bullish direction, private companies see this as an environment in which they’re comfortable raising capital through an IPO.
There are seven companies with IPOs scheduled in the near future and two more that are priced and ready to receive a release date. These include AI plays like Astera Labs, environmental tech company RanMarine Technology and commercial real estate company Massimo Group. However, it’s the social media giant Reddit’s IPO, slated for late March, that is drawing the most attention. The company is seeking a valuation of $6.4 billion, with 22 million shares expected to open at a price between $31 and $34.
Additionally, there are a handful of well-recognized brands that investors are expecting to trade publicly this year. Panera Bread, for example, sought a public listing via SPAC merger in 2022 before the deal fell through. With the more favorable environment, there’s a greater case for the company to go public this year.
Fast fashion company Shein filed for an IPO in 2023; however, that particular filing is caught up in a larger political dispute as it's a Chinese company, but it still plans to trade publicly and is exploring its options. Rumors have circulated that Kim Kardashian’s brand, Skims, as well as fintech companies Stripe and Chime are all expected to go public within the year, though no filings have yet been made.
Is it a good idea to invest in IPOs?
Technically, retail investors aren't the first ones in when a company goes public; IPO shares are often only accessible by accredited traders and institutions initially. Some IPOs will have shares set aside for retail traders, but the usual way to get in on IPO shares is by meeting certain criteria, like having a certain threshold of money (anywhere from $100,000 to $500,000 or more) invested with the brokerage or performing a certain number of trades each year.
In cases where IPO shares are not set aside for retail traders, your first opportunity to invest in a newly-public company is to simply buy shares the day the target company becomes public. So is it a good idea to invest in an IPO? It depends on your particular desires as a trader.
For a fundamentals-driven, long-term investor, IPOs might not stand out as a particularly attractive investment. Not knowing the full scope of a business's financials and other details might have this type of trader thinking twice. This isn’t an irrational worry, either; companies are typically fairly unprofitable after their IPOs. Research from Nasdaq shows that only about 1 in 5 of all companies that launch an IPO turn profitable.
But from other angles, IPOs can be worth considering. They present one of the earliest opportunities investors have to take ownership in a company, and getting in early means potentially paying the lowest possible cost for those shares. This is especially true for a company as well-known as Reddit or Shein, where brand hype alone can pump up share prices.
The decision ultimately comes down to whether investors believe the stock’s set price is fair, if there's a likelihood for a profitable future for the company and the investor's comfort level with risk.
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