IPO market faces worst year in two decades. ‘Really hard pill to swallow’

The IPO market is on pace for its worst year in decades, leaving fledgling companies with few options but to burn through cash while they wait for the stock market to calm.

Late last year, hundreds of companies were in the final stages of preparing to go public, encouraged by the best 18 months ever for U.S. initial public offerings. Then a combination of factors—sky-high inflation, rising interest rates and Russia’s invasion of Ukraine—sent shock waves through the stock market.

The IPO pipeline froze. So far this year, traditional IPOs have raised only $5.1 billion all told, Dealogic data show. Typically at this point in the year, traditional IPOs have raised around $33 billion, according to Dealogic data that goes back to 1995. Last year at this point, these offerings raised more than $100 billion.

The last time levels were this low was 2009, when the U.S. was recovering from the depths of the financial crisis and the IPO market reopened near the end of the year.

IPO advisers say they don’t expect 2022 to follow that pattern, meaning it could end up being the worst year for raising money in IPOs since Dealogic, a research firm, started tracking it in 1995.

Fintech firm Klarna Bank AB was a highly anticipated 2022 IPO, but instead of making a splashy debut, the Sweden-based company laid off hundreds of workers to cut costs and was forced to seek funding in private markets. Klarna, which specializes in buy-now-pay-later services, managed to raise $800 million this summer—but only after cutting its valuation by 85% to $6.7 billion.

That valuation is still three times the level Klarna was valued three years ago, a Klarna spokeswoman said.

StockX, an online marketplace that sells sneakers, streetwear and other items, had planned to go public as early as the second half of 2021, people familiar with the matter told The Wall Street Journal last year. But StockX has yet to file IPO paperwork. In June, the company laid off 8% of its workforce. The company declined to comment.

Fewer companies going public is typically viewed as bad news for the economy and investors.

An IPO, especially when a company is younger with more room to grow, can allow more small investors to benefit from future gains. Publicly traded firms must register with regulators and provide more transparency around their finances. Big-name IPOs are typically the kinds of high-growth companies that helped the stock market rise for a decade after the financial crisis.

Bankers and lawyers who work on IPOs said companies that decide to brave a fall or early winter stock-market debut this year may need to halve their valuations after two years of roaring markets where private investors plowed cash into money-losing companies at sky-high valuations.

Top IPO lawyers say they are “pencils down" for almost all their expected deals this year, and that some companies looking to 2023 IPOs are pushing off hiring bankers.

Denny Fish, a portfolio manager at Janus Henderson Investors, typically buys shares of growth companies in their IPOs. He said he doesn’t plan to participate in any IPOs until 2023 at the earliest. “It might feel a little better because the market has bounced in July, but there’s still so much uncertainty," Mr. Fish said. “There’s just not a market for companies coming public right now."

As of Friday, the tech-heavy Nasdaq Composite was down 19% in 2022. That’s up from its mid-June trough, when the index was trading off more than 30% for the year.

Notable cryptocurrency startups, food-delivery companies and financial-technology firms are among the companies that had planned 2022 IPOs. As time passes and their cash reserves diminish, companies may need to tighten their belts as financing gets tougher.

Some, such as rapid-delivery startup Gopuff, are cutting costs by laying off workers. Grocery-delivery company Instacart Inc. and payments company Stripe Inc. have slashed their private valuations. Others have had to raise new money at steep discounts to prior financing rounds.

Many fund managers agree with Mr. Fish. Those who bought stock in the blockbuster IPOs in 2020 and 2021, including trading platform Robinhood Markets Inc., electric-vehicle maker Rivian Automotive Inc. and restaurant-software provider Toast Inc., are saddled with big losses.

Even though the IPO market isn’t healthy right now, many companies still have a burning desire to go public, bankers say. Some need the cash. Others are running against a ticking clock for restricted stock units issued to employees through vesting plans. And some are eyeing acquisitions but need stock or money to complete offers.

“I don’t think a lot of companies that are private right now expected they’d be private by now," said Barrett Daniels, U.S. IPO co-leader at accounting firm Deloitte LLP.

He said companies that need money, especially founder-led firms, may struggle with the lower valuations their companies might now command. “It’s a really, really hard pill to swallow. Going backwards is hard to compute," he said.

There are a handful of companies determined to go public in 2022, people familiar with the matter said, including Intel Corp.’s self-driving car unit Mobileye, Instacart, and American International Group spinoff Corebridge Financial.

Other offerings, including SoftBank Group Corp.’s Arm, a chip-design specialist, following its failed sale to Nvidia Corp., are expected within the first few months of 2023, people familiar with the matter say.

There are many reasons for the IPO drought. Late last year, fears of inflation and subsequent Federal Reserve rate increases spooked investors who put money into companies that promised big growth but have little or no current profits. High-growth companies sold off and inflation fears accelerated, with many analysts warning of a coming recession, driving shares of profitable companies lower, too. The economy contracted at an annualized rate in two consecutive quarters, a common definition of a recession, and volatility climbed.

Fund managers hunkered down, attempting to protect against big losses, which meant avoiding taking extra risks, like newly public companies.

Meanwhile, IPO advisers and investors agree the IPO playbook is changing: They say the first companies to go public after the markets calm down should be profitable, fairly large, and “must own" names—companies that are well-known and leaders in their specific industry.

Many private companies are taking note. Thanks in part to cost-cutting, Instacart, for example, was profitable in the second quarter of this year under generally accepted accounting principles, according to a person familiar with the matter. Revenue for Instacart during the three months ended in June climbed 39% from the year-earlier period to $621 million, investors told The Wall Street Journal, the highest quarterly revenue in Instacart’s history.

Though some companies including Klarna were forced to face a sharp valuation cut because they needed to raise more money, many others aren’t hurting for cash yet, because they raised a lot in 2021 before the market turned. Last year, U.S. venture-backed companies raised nearly $330 billion, almost double the previous record raised in 2020, according to research company PitchBook.

Although the stock market is bouncing back and some secondary stock offerings have performed well, bankers fear what a poor showing by a new issue could do to the IPO market.

In May, Bausch + Lomb Corp. went public when virtually no one else was doing so, and investors were largely uninterested. The eye-care company priced its stock at $18 a share, far below its expectations. It commanded a valuation of about $6.3 billion, less than half of what the company had been hoping to reach just months earlier, people familiar with the matter said. A company spokeswoman declined to comment. Now the stock trades around $15.50 a share.