I consider this a symptom of the massive wealth inequities in contemporary America. As other comments have pointed out, this phenomenon is not unique start-ups. The most direct cause of the IPO decline is a lack of necessity. Public markets used to provide crucial injections of capital for investment and growth. Currently venture capitalists control enough wealth to provide those investments directly.
This point is made most dramatically by looking at the growth of private equity investment through the early naughts. Some relevant plots can be found in [1] which uses the data to advocate for deregulation, which I do not believe gets at the underlying issue.
The last serious study of VC performance I read suggested that, as an asset class, venture capital underperforms the S&P 500. Pension funds invest in VC not to get access to sweet sweet unicorn dollars, but because their portfolio strategies require them to have decorellated investments.
I've been in the industry long enough to remember working in it when it was very easy for tech companies to go public. It did not work out well for retail investors.
I wonder if the kind of capital also matters. Does capital contributed by a partner in a venture capital firm more anonymous than money invested in a public company? Is VC money cheaper because it comes from questionable sources which can't find its way into the heavily regulated public market?
(I am not a finance guy so pardon my dumb question )
How do do startups serve decorrelation of fund portfolio? Startups valuation has to have some degree of correlation to the industry they serve. By this I am supposing that if you have a healthcare startup, its valuation would be strongly related to the performance of the healthcare sector. So if you have say healthcare stocks in your funds' portfolio, would investing in a healthcare startup serve decorrelation ?
Startups often don't correlate very well with the industry they are in because they usually don't have the same business model. So I don't think Uber correlates with to transportation stocks, or Air BnB correlates to resorts, or 23 me correlates to Pharma etc. There is a cycle to start ups, but it is related to the broader economic outlook and the price of capital.
Your private startup VC equity is not worth very much exactly when the stock market is doing poorly and you can't IPO or get acquired for BigCo stock. It seems very correlated to me.
Venture capital isn't just a few rich people funding all the startups. There are massive funds for regular working class people like California's teachers that invest in these things.
VC grew because it got mature and turned out to work well (for recent history) and it provided a way to avoid the stresses of public market oversight while a fledgling startup is pivoting every few months and making no money.
It doesn't appear to have anything to do with wealth inequality and you didn't really provide any evidence to back up that assertion. Maybe when all you have is a hammer everything looks like a nail?
If you read my assertion carefully, I said "control" not "fund". I understand that large public institutions are heavily invested in both VC and PE. My point is simply that public markets are less attractive because wealth is controlled by a small number of hands. Are the teachers themselves deciding where to put their money? Suggesting that the real beneficiaries of venture capital and private equity are the "regular working people" sounds like a fairly obvious canard.
Also, I did provide evidence---in fact the thrust of the article I cited is that diminishing numbers of IPOs are making wealth inequality more acute. Furthermore, it's presumptuous of you to assume that "wealth inequality" is my hammer of choice---I cited a piece from the Cato Institute!
>If you read my assertion carefully, I said "control" not "fund".
So then your association with income inequality makes even less sense. If you're just referring to the centralization of the control of funds that happens with anyone who puts their money in a pool that has a manager. It has nothing to do with inequality because teachers make very little and so does their chosen pension leader and yet the latter has investment control over massive sums of money.
>sounds like a fairly obvious canard.
Yawn. An appeal to obviousness is tiresome to respond to. If you think you have a point to make, elucidate it. From where I sit, as long as pensions are involved in private equity, it benefits working people too.
>in fact the thrust of the article I cited is that diminishing numbers of IPOs are making wealth inequality more acute
So then it's not a symptom, it's a cause. To explain the difference: Lack of IPOs are not caused by income inequality but the lack of IPOs lead to more income equality.
"Companies staying private longer is bad for investors. Eliopoulos described the motivation as “more companies staying private.” But that doesn’t mean this behavior creates an investment opportunity. In fact, it prevents the monetization that investors need to realize returns. It might be different if these VC backed companies were growing up to throw off tons of free cash flow, but as far as we can tell, that is seldom if ever the case. As we wrote regarding Uber, a prime example of this behavior:
Kalanick had maintained he wanted Uber to stay private as long as possible. That may be a fad with some unicorns, but it’s not the way for a shareholder to maximize his net worth, so it’s a preference that raises questions about the founders’ ulterior motives. Needless to say, that desire put him at odds with his investors."
The reason late stage VC investments historically were attractive was that certain marquee investors would help validate the venture shortly before a planned IPO. The limited time between the investment and the IPO (and the investors’ reputation helping assure the IPO would be priced at a healthy premium to the last pre-IPO round) meant the odds of a healthy quick profit were high.
With more companies staying private longer, these conditions aren’t operative.
Most VCs raise from institutional funds (like banks) don’t they?
VCs overall, perform quite poorly. But they’re useful for banks, they need somewhere to put money as a hedge against more traditional investments (and currency devaluations in general I guess). For them it’s just a different risk class, and therefore useful for diversifying their risk.
This point is really important. The biggest private equity players are invariably pension plans. Canada has been particularly good at letting quality managers run their public pensions and they have outsize importance now.
Wondering if these funds may be obligated to work in the interest of their investors vs just maximize dollar value. For example, should a factory worker retirement fund invest in robotic companies that automate workers out of a job? I suppose the argument is that if they don’t someone else will.
What you’re referring to is activist investing, or what is more descriptively known in most cases as activist divesting. Activist groups put pressure on funds to invest in, or divest from, certain assets.
For example, my college’s endowment was invested to varying degrees in the oil/energy industries. A bunch of forestry school grad students organized a “divestment campaign” to pressure the investment office to divest from anti-environment assets. I’m not sure how effective they were in the end, but they sure made a lot of noise.
So yes, endowments/pensions/sovereign wealth funds are certainly obligated to listen to their “constituents” if you will, but only by societal contract. A big enough PR storm should be sufficient to drive investment or divestment, if enough people are emotional and aggressive in marketing their argument.
> Schools spend an average of a little more than 4 percent of their endowment funds annually.
---
> “Endowments aren’t generally used to lower tuition,” said Richard Vedder, an economist at Ohio University, testified before the House Ways and Means Committee last year. “Typically less than 20 cents of every dollar of endowment income is used for scholarships to lower fees for students. Making college more affordable is not the dominant use of endowment resources.”
---
> Critics note that a lot of endowment money goes toward glitzy student centers, athletic fields and pricey academic buildings.
An endowment is there to provide investment income over tens/hundreds of years. Spending even 100% of that year's capital gains would be grossly irresponsible. The article you linked is calling for 5% vs. 4%... sure there are probably some institutions being too stingy, but on the whole, taking small distributions is the point.
Spending more than 4% of the endowment would be highly irresponsible. The entire point of an endowment is to not decline in value over time—they should consistently spend less than investment returns annually.
Endowments themselves accrue over time. There's no need to indulge some wealthy person's fantasy of everlasting life through their money, especially after they're dead, when more people will be along to take their place.
I don’t understand. Are you claiming universities should throw themselves on the mercy of year-over-year changes in donations?
The most valuable asset an institution like that has is time. Mere mortals can only start to live on investment income in their twilight years, but universities don’t die. As they get old enough, they could even become entirety self-sustaining.
Why would there need to be a limit? Do you imagine that Harvard having a large endowment is somehow depriving others of money? If so, you are fundamentally misunderstanding - endowments are invested in the economy.
A nonprofit institution doing good work should always seek to expand its reach and the extent to which it fulfills its mission. Are you concerned that the American people are too educated, or that too much is invested in research?
Currently, the incentives are to (a) give the fund administrators nice big bonuses, (b) increase the wealth of the organization, and (c) give the donors a kind of lingering life after death from their bequest, thus lots of strings and clauses.
The thing that's missing in this is progressing the goals of the organization itself, its mission.
Universities shouldn't be hedge funds with a sideline in teaching and research.
Increasing the wealth of the institution and giving donors life-after-death are both about serving the goals of the institution. I agree that excessive management fees can be a problem, but universities aren’t selling shares. The hedge fund’s gains serve the university’s mission, not to enrich some investor.
Universities shouldn’t be fundraisers and lobbyists with a sideline for teaching and research. Becoming independently wealthy frees them from that.
He is not arguing usage but existence. The existence of large endowments surely displays wealth inequality, regardless of the utilitarian nature that may result as the outcome.
Large institutions are wealthier than individuals? Large institutions are wealthier than small institutions? Neither of these realities are surprising or concerning in any of the ways that wealth disparity between individuals is.
That's a bit of a simplistic view. It costs a LOT of money to do an IPO. Considering most startups make a few million a year in niche markets, it's hardly worthwhile to invest in going public.
Posting anonymously. Some quick factors not discussed.
1) Massive compliance overhead. Going public and maintaining public status can be a real nightmare.
For example staff generally "get" what a financial statement audit is about - are the numbers correct. And when they aren't everyone gets that a system should be improved. And the auditor makes some notes about areas to improve based on their work, and the difficulty and errors noted in checking the actual numbers. This is the audit most private companies go through - and it actually works pretty well.
A public company under SOX - now you have an audit of the numbers (great) and you have a kind of meta audit of the system (internal control) that got to those numbers (ugh). The cost / benefit of this second part is not clear to most staff. It's huge checklists, everyone get's checklist fatigue, and no one dares change a system after the auditors have been through etc. You literally can ask, why in the world do we do crazy procedures X/Y/Z? Because the auditors accepted it and we are too scared to change it. All critical thinking goes out the window. And folks start driving workarounds to the systems to get stuff done (double ugh and big actual risks).
Read some PCAOB reports for "audit failures". These aren't actual "audit failures" - no numbers were wrong. But it'll be things like - the auditor read over the calculations, checked underlying documents, recalculated numbers sat in on some meetings, but STILL didn't do enough to assess internal control over some calculation.
OK - I'll save the rest for later, but the idea that the private markets are the new public markets rings true to me. These are folks who can weigh actual cost / benefit of compliance cost vs losing money on an investment. Most are going to stick to something like a regular audit. Multiply by 100x in every dimension?
Most such rules are in place because slimebags abused the system, and in some cases taking the world economy with it. I'm all for making more efficient auditing rules, but one has to be careful not the throw the baby out with the bathwater.
Perhaps have compliance tiers such that smaller co's can optionally be in a riskier and less audited stock system or level. However, we probably don't want too much of the economy in that pool.
As it is, private investors may be willing to take on riskier and even dodgier companies who don't want auditors snooping around. That's fine: if the rich want to gamble with dodgy companies via private investment, go for it.
SOX was 2003 - and after it was implemented a bunch of folks nearly took down the world economy all while saying they complied with both SOX and the "highest ethical standards".
The folks who wanted to take down the country faced almost NO consequence and SOX did little to prevent it. Seriously - thousands of companies jump through regulatory hoops - and the aggressive players get off with nothing.
There are lots of people (most people) working to do the RIGHT thing. It's SUPER annoying to have people put in huge efforts to get a bunch of small things right, and then to have goverment totally fail to enforce truly 101 big things.
I would trade out some of the stuff that 4,000 companies and 100,000's of individual have to jump through for even 100 companies getting some actual enforcement action. Everything from IRS audit to anything else you can think of, just at least make there be some consequence for the 101 style abuse of the systems.
Even auditing another 10,000 individuals, 200 additional executives - the number of folks putting money offshore - with full disclosure now available through leaked documents and information sharing, there should be 1000's of cases to chase this stuff down, not just voluntary disclosure programs.
> but one has to be careful not the throw the baby out with the bathwater.
I think it's arguable, though, that setting up onerous regulations is itself an example of throwing the baby out with the bathwater. A ton of otherwise honest companies are required to spend money on compliance because of the actions of a (relative) few bad apples.
The thing that always gets me is that the industries that have grown up around simply guiding and auditing other companies around process and financial compliance suck billions of dollars out of the economy that could be spent in better ways.
Not saying we should throw away the entirety of this regulatory apparatus, because it does serve a useful function, but I think it would be wise to examine the cost of regulation and eliminate parts that cost more than they're worth.
The US as a whole really struggles with self-regulation... we tend towards the extremes of seems deregulation or a byzantine web regulations spawning off a new industry that lobbies for answering every problem with more regulations.
Why not create stronger incentives for individuals? Simplify regulations with massive painful corporate fines and jail/asset forfeiture for culpable leadership. Red tape is implementation details, let them figure it out. A laser pointer is the best way to herd cats.
I really wish we placed more emphasis on significant and wide reaching criminal charges for Executives and other employees who are involved in the bad behavior.
It makes more sense to punish those who cheat than to create onerous regulations to prevent cheating. (Of course no reason you can't have appropriate levels of regulation alongside severe penalties for the white collar crimes the regulations are supposed to prevent.)
While I agree this is a good idea in principle, the problem in practice is that the government is complicit in the cheating. Many of the private actors in the 2008 debacle didn't get punished because the government officials who would have had to punish them had given them nudge nudge wink wink approval behind the scenes. Also, when things started to go south, government officials were calling the shots. (Not to mention the obvious revolving door effect--government officials regulating a given industry are usually former executives in that industry, and often go back and forth several times in their careers.)
But how long ago did these slimebags abuse the system, and are we sure it's still a problem in the modern era?
It seems a lot like the Uber/taxi fight - I imagine at some point somebody painted a car like a taxi and kidnapped some riders, and we needed a way for riders to be able to trust that the driver is safe to ride with so licenses/medallions came about. Now with the internet and verified identity of drivers, turns out we don't need it anymore and Uber has built a safe way to get into a stranger's car.
> Uber has built a safe way to get into a stranger's car
The people who have been attacked by Uber drivers wouldn't agree with that statement. I think Uber/Lyft/etc. are largely safe, but their standards are pretty low, and for a long time they weren't even doing proper criminal background checks on prospective drivers. Agreed that the old taxi system was entirely broken and needed to get shaken up, but Uber was hardly a responsible darling in all this.
While I also agree Uber is no darling, the proper comparison would be between driver-on-passenger assaults for ridesharing services versus traditional taxi. How do they stack up?
It's not immediately obvious which one would be safer. In theory ridesharing yields a more extensive data/evidence trail (driver identity, passenger identity, GPS history, etc), making assault much harder to get away with; this would seem to be a better deterrent than relatively anonymous cab rides.
I did a bit of googling and can't find any hard numbers that compare the two types of transport from a driver-on-passenger assault POV. I would welcome cited figures anyone else might have.
When you say "doing proper criminal background checks", do you mean "making sure no one who has re-entered society after serving their sentence is allowed to work for them"?
Countries with good rehabilitation also do this, certain types of sexual crimes have high recidivism rates despite the best efforts. There's rehabilitation and there's realism and protecting the public, there's a balance.
On my local Nextdoor someone posted recently about a trial being finished and warning that his wife had been sexually assaulted in a nearby area. The actual newspaper story was a little heart-breaking, on the one hand the guy clearly had been trying to improve and felt remorse, on the other he's a menace to women, he literally walked up to the women and put his hand up her skirt.
There are a lot of careers in which criminals can and should be given a chance to reenter society without unacceptably compromising public safety. Driving taxis is not one of them.
I don't think you have a clear idea of what you are talking about in terms of regulation.
As mentioned earlier, Sarbanes-Oxley regulations on public company reporting (which is what is being discussed here) precedes the 2008 financial crisis. There are different regulations that came into place on banks after the 2008 crisis like the Basel III capital requirements that attempt to solve a different problem.
2008 had absolutely nothing to do with the regulations normal public corporations operate under while they are public. Stop bringing it up in the context of SOX because it's irrelevant and goes to show more than anything that the onerous regulation is ineffective because it came out before 2008.
>>But how long ago did these slimebags abuse the system, and are we sure it's still a problem in the modern era?
Of course it is. The system rewards greed, which is a strong incentive to bend the rules or even break them if one thinks they can get away with it. That is why tight controls are necessary, even if they are costly.
>>>Most such rules are in place because slimebags abused the system
While true it was those same "slimebags" that wrote the rules. They made the system complex and convoluted so they could legally do everything they were doing before only now with a full government liability shield protecting them.
My wife works in finance. This above explanation is completely untrue. Companies aren't scared of auditors. The auditors are scared of their clients. Only under extreme situations will an auditor turn around and fire a client. Usually they will find ways to work with them. So things like changing processes, especially for SOX, are non-issues.
There are thousands of public companies in the US, and they all have to endure SOX. It's a pain in the ass but it's not something to be feared. There are plenty of regulations that many companies need to go through that are less onerous than SOX.
The parent never said that companies are scared of auditors, merely that companies have developed processes that auditors have signed off on, and they become scared (I guess a better term might be "resistant") to change those processes because it's time and effort (aka money) to get those new processes approved (which might require some back and forth and iteration). This is absolutely true, and I don't find anything in the parent's post that's inconsistent with that.
From what I've heard from people at my company who deal with auditors, there's no fear or antagonistic relationship; both sides want a positive outcome (which shouldn't be surprising at all). But the cost of the audits and the cost to develop compliant process is real, and I wouldn't blame a private company for eschewing public markets to avoid having to deal with that, especially if they have enough access to private capital.
A more realistic framing would be to say that the auditors having accepted something gives a middle manager an excuse to not have to do something when you ask.
But here’s the thing; any company over a certain size is going to have internal compliance. Because that’s just good business; you want to know if money is walking out the back door.
Parent companies are still going to audit their subordinates; they don’t want the risk. Banks audit private companies before giving them loans. Investment bankers and private equity do the same. These auditors publish standards. So good internal controls processes will still be necessary, just for different reasons. If you want access to funding and resources, you had better be compliant.
>> both sides want a positive outcome (which shouldn't be surprising at all)
Well, it is suprising to me. In my country, when there is some audit by government agency, be it tax office, or stock market regulators the usual approach is that auditors won't rest until they find something against the company, some reason to fine it.
I think that auditors simply consider their time wasted if their come back to their office empty handed (i.e. without fining the audited company).
There are many cases where tax office made a company go bankrupt by first charging it with some crime, then blocking its accounts, then fining it. After few years of lawsuits company wins, court finds them innocent and orders refund of all the fines, but by the time this happens it is already too late: company is long bankrupt.
So I think you are lucky to live in a country where auditors are this friendly :)
I think the parent is talking about periodic internal audits i.e. conducted routinely but you are referring to forensic audits which are conducted occassionally when there is suspicion of wrongdoing (e.g. manipulated tax returns, inflated contracts etc).
> You literally can ask, why in the world do we do crazy procedures X/Y/Z? Because the auditors accepted it and we are too scared to change it.
I interpret it as the parent saying that they're afraid of making changes because they're afraid that the auditors won't sign off on it. "Scared" is a funny word to use when they could have called it a "pain in the ass", etc.
Fear of pain, hassle, loss, or discomfort is still fear. "Scared" is a perfectly acceptable word to use when someone decides not to do something they should do because they don't want to take a risk.
The simple act of complying with GAAP is much more onerous than SOX. Any finance person worth their salt can navigate SOX easily. Only inexperienced finance people have problems with SOX, but then again, similar things can be said about inexperience programmers as well.
I'm afraid this illustrates how poorly informed you are - you clearly are not an accountant with significant experience (just saying). This goes doubly so of your wife - if this is her level of understanding that is very worrisome - the idea that she is licensed with this attitude is scary - it's what you don't know that can bite you.
Some facts for those that may read the above and get the wrong idea. EVERY major big four firm and their clients and all other major players have had great difficulty in this area. It's super painful because the question is not - are the numbers right - which pretty much everyone in accounting would understand putting efforts towards, but a very meta (and wide) question on systems getting to the numbers (with turns out to be subjective).
What's crazy is I can step back from this type of thing and without even going into a company spot lots of issues likely illustrating poor control or even worthy of enforcement action (actual enforcement) from the outside. Seriously, go to a consumer complaint website - if you see a ton of the same complaint it's worth a look.
This is why CFPB was such a powerful idea. Yes - they overreached slightly but 90%+ great work - and very focused on bad actors which was wonderful to everyone trying to do right thing. Absolutely should have kept going with that idea.
Just a flavor... pay close attention to words like all and every which open up each item to huge scope - the auditor here picked a random month to test a system and actually went in person to a meeting where reconciliations were performed. Now repeat this 100x for each client. Every firm out there doing audits has had issues like this (many).
These are the MOST experienced people - so I laugh when I hear that "only inexperienced people" have problems.
KPMG:
A.1. Issuer A
In this audit, the Firm failed to obtain sufficient appropriate audit evidence to support its opinions on the financial statements and on the effectiveness of ICFR.
The Firm identified this manual control and certain other manual review and reconciliation controls as compensating controls, but failed to sufficiently test these controls.
Specifically —
o To test the review and approval of changes to the financially
significant applications, the Firm tested a sample of changes to
determine whether they had been appropriately approved. The
Firm's testing was not sufficient as ... its sample was limited to changes made in only
one month (the third month before year end) and the Firm failed to
consider whether this month was representative of changes made
throughout the year.
o To test the manual review and reconciliation controls, the Firm
obtained certain monthly operating review reports and
reconciliations and attended certain monthly management meetings
where the reports and reconciliations were discussed. The Firm's
testing was not sufficient, as (a) it did not test controls over the
completeness and accuracy of the data in the reports, and (b) it
failed to test whether these controls identified all of the relevant
issues for investigation and, if so, whether such issues were
appropriately investigated and resolved.
No doubt you have experience that I don't. But if I'm reading a comment about audit controls, and it can't keep track of how many numbered points it has, I'm going to be skeptical.
The issue is simply a result of earlier articles talking about how nobody wants to do Series A's anymore--VC's and companies. If one end of the pipeline shuts off, the other end eventually runs out too.
A big trend in American business is the collapse in the number of listed companies. There were 7,322 in 1996; today there are 3,671.
The number of companies doing initial public offerings (IPOs), meanwhile, has fallen from 300 a year on average in the two decades to 2000 to about 100 a year since.
I wasn't aware of that number, but I was just thinking recently about how many fewer banks there are today than there used to be. In 1995 there were 10K; as of last year there are less than 5K.[1] So a 50% drop in that timespan, mirroring your numbers.
And the first article I came across looking for the latest 2017 number is about Amazon's interest in becoming a bank. Guess the trend validates the dystopian sci-fi trope of multinational conglomerates ruling everything in the future.
Interesting, but if you look at the graph banks were already well on a downward trend before 1994 - there were 14.4K banks in 1984, 13.4K in 1988, 12.5K in 1990, 11.7K in 1992.
""It is concentration of capitals already formed, destruction of their individual independence, expropriation of capitalist by capitalist, transformation of many small into few large capitals.... Capital grows in one place to a huge mass in a single hand, because it has in another place been lost by many.... The battle of competition is fought by cheapening of commodities. The cheapness of commodities demands, caeteris paribus, on the productiveness of labour, and this again on the scale of production. Therefore, the larger capitals beat the smaller. It will further be remembered that, with the development of the capitalist mode of production, there is an increase in the minimum amount of individual capital necessary to carry on a business under its normal conditions. The smaller capitals, therefore, crowd into spheres of production which Modern Industry has only sporadically or incompletely got hold of. Here competition rages.... It always ends in the ruin of many small capitalists, whose capitals partly pass into the hands of their conquerors, partly vanish."
- Marx. Capital Vol I, Ch 25
"There is no America. There is no democracy. There is only IBM and ITT, and AT&T, and Du Pont, Dow, Union Carbide and Exxon. Those are the nations of the world today."
Interesting! I hadn’t seen this article, but now I’m curious how many of these were “fake” internet companies. Given it being 1996, it probably shouldn’t be too heavily dominated by fly by night internet companies (yet). I’d be curious how these numbers compare to say 1986 as another data point.
Not sure that thesis holds water. Michael Mauboussin published the paper, "The Incredible Shrinking Universe of Stocks: The Causes and Consequences of Fewer U.S. Equities" in 2017 [0].
The Big Ideas: IPO's and being public are more expensive with less benefit while at the same time M&A has flourished.
Even outside of the dotcom context the technology nowadays rewards consolidation.
All publicly listed internet portals of the 90s (Yahoo, Infoseek, Excite, Ask Jeeves) have been essentially overrun by Google. Retail had to either consolidate, slim down or delist due to a private equity infusion, with AMZN emerging as a clear winner.
I would also point out that short sellers and "activist investors" are a significant downside to being public. Essentially you give investors focused on these strategies a financial incentive to destroy the company's long-term value. Activism has been a big problem for drug companies where investors will try to fire all the scientists so that profits will go up for a few years.
> Activism has been a big problem for drug companies
Forgive me if I'm wrong, but isn't it kinda up to the shareholders?
If shareholders value something other than the "long term value" you speak of (I guess share price and dividends) then that's their prerogative surely? If I want to buy a controlling stake in a company but my idea of value is, say, sacrificing profit at the expense of employee perks and charitable efforts, then this is my "shareholder value" and isn't it then the responsibility of the company to provide that?
Likewise, if I buy shares in a company and then want that company fire all the highly paid people so profits go up to enable me to flip my shares for more money, that's my value and isn't it therefore up to the company to do that?
In summary, if the value of a company is measured by what the shareholders want, then it can't be a problem if the company does the thing that the shareholders want, even if that's destroying what you see as the "long term value" of the company.
It might not be what you want as a founder or CEO when you IPO, but those are the rules, those are the risks and you have to take them if you want to play the system?
I think your points highlights the contrast between how the US thinks of corporate stewardship (shareholders get complete discretion) with how many German companies do (stakeholders all contribute to board-level decision-making).
In the US it seems entirely reasonable that an owner should be able to undermine the long-term viability of something they own, but in Germany other stakeholders - the larger community the company exists in, the employees of the company -- get a seat at the table to determine the company's course.
I'm not advocating for either, just an interesting distinction.
For what it's worth this is my limited understanding of the way the US stock market works from my observations over 17 years in the UK :)
Personally I'm a big fan of the "middle ground" European model that seems to be, "capitalism with boundaries", as far as I can tell unfettered capitalism is incredibly destructive and unfair.
This is correct. Shareholders may increase the voting power of their shares up to 10x over 10 years by registering their shares on the company’s books.
You mean people that point out shady shit a company is doing? Short sellers serve a very important role in the market and help prevent things like Theranos.
True, but it can be a significant problem for legitimate companies. After going public Tesla had the highest short interest of any major stock at 72%. The other companies that were in the top 5 at the time are all bankrupt or close to it now. Short sellers perceived it as an unrealistic joke, and tried to convince everyone else of that, which could easily have become self-fulfilling.
But they didn't, did they. So what's the problem here? There is no problem with a big chunk of people holding a short position in a stock. Tesla has some big problems that traditional business people get concerned about (e.g. making money).
Activist investor is minority investor who puts pressure on management and generally campaigns to change something about a company - for their own goals.
> There are two quite separate kinds of "activist":
> One kind wants companies to make more money by being meaner: They call for efficiencies, stock buybacks, mergers, less spending on perks, etc. This stuff is often stereotyped as enriching shareholders at the expense of workers and other stakeholders, and as harming long-term value by focusing on short-term stock-price results.
> The other kind wants companies to make less money but be nicer: They call for more social responsibility or environmental studies or other things that might reduce returns on investment (at least in the short term) but achieve broader social goals.
> They are not so much opposed as they are unrelated.
I don't see how they are a downside. I am sure that VCs and PEs are at least as tough as activist investors in making sure to keep management on its toes. Notions like MVP and ramen profitability were not invented by activist investors, after all.
> Startup mergers and acquisitions are also trending downward.
That's not what the TechCrunch article actually says.
The article says that the big mergers and acquisitions are down. But the big M&A are the economic equivalent of luxury real estate deals. Do you really care that a Hollywood celebrity can't sell his or her mansion at a nice price?
Huge M&A are difficult to pull properly. The fact that there are fewer is a good thing. It will also make the evaluations more reality-based and not based on "but mommy, I wanna be a unicorn too".
Doesn't matter if you vested everything or received refreshes, raises, etc. Your measly 10% raise every successful promotion once every 2 years is nothing compared to offers doubling for experienced engineers over the past 5-6 years (at least in SV).
I can't help but think that some of this is a direct result of Wall Street f\ckery. When your prime directive becomes "engage in financial shenanigans to make this quarter's results look good, to prop up the stock price because shareholder value," your actual business becomes irrelevant.
Contrast Family Video (privately held and still going strong) vs. Blockbuster Video (no longer a thing). Sure, video rental may not have enough money in it to satisfy the Wall Street vampires, but there's still enough life in it to make money. If you don't have to keep vampires happy, you can invest your profits into your business, or even into new ventures.
Hilariously, there's a Family Video in my neck of the woods that moved across the street into the former Blockbuster location. They retained ownership of their original building* and are using that for a new business venture (a 24-hour fitness center). EDIT: In their new location, and many others, they have a Marco's Pizza attached.
* There's another whole issue: owning your real estate rather than being beholden to a landlord.
Blockbuster was controlled by a fairly conservative group that deliberately chose not to carry porn.
They even made that awful stripper movie (versayth anyone?) “sfw ” by using cutting edge CGI to add little triangle bras, apparently costing more than the original movie. Which I think they had to pull because that made it copyright infringement :)
It wasn't just porn they didn't like, Blockbuster edited any movie they considered unsavory before the transition to DVD. The last movie I rented from Blockbuster was "Bad Lieutenant." The normal, R-rated cut is 91 minutes. The Blockbuster cut was under an hour. They cut so much of the movie that the plot no longer made sense.
I was so annoyed I vowed never to rent from them again.
ATT is has been making bank on porno for a long time. They try hard to keep it quiet, but lefty and Christian magazines seem to alternate rediscovering it every few years.
Blockbuster was hit hard by Netflix, which while it was on the internet was still physical delivery when it started killing Blockbuster (broadband penetration and internet-to-TV connections weren't yet common enough for living room streaming to compete strongly with DVD and then BluRay delivery.)
There were efforts to reproduce the Netflix DVD model for porn, but home delivery of porn always had a comfort issue, so they were never as successful against local rental as Netflix was against blockbuster.
Netflix might have been a problem for blockbuster, but I think the real problem was redbox. The vast majority of foot traffic in the blockbuster was for the recent releases, and they did everything in their power to screw new release renters, and god help you if you ever returned something late.
So, the instant gratification, want to watch the new release crowd quickly discovered they could get their fix for $1, and if they forgot to return it, no big deal it was just $1. The tiny little machines meant that they didn't have massive overhead, so not renting movies on mon/tue/wed/thur wasn't a big deal.
So for slightly more than a single new release a month you could have a much larger back catalog with netflix, and for new releases and quick turnaround you could rent a movie for $1 instead of $5-6 or whatever the standard 3 day thing was at blockbuster.
Their problem was that they were fat, dumb and happy screwing their customers and creating ill will. When a couple reasonable alternatives presented themselves boom, the bottom fell out faster than they could react. Although in hind site, I can't really imagine what they could have done. Maybe trim the stores down to a few deep catalog sites with a subscription model like NF while sprinkling little robotic boxes everywhere? Who knows, the end result would have been much lower profits, and if there is one thing history tells us, its that corporation have a really hard time when their margins shrink. Its just to hard to trim the fat.
I worked at a Blockbuster for a few years right about when video was on the way out and DVD was on the way in.
I don't think we screwed customers. A new release was $5 (AUS) for a night, that's hardly extortion. Almost all of our profit was made on new releases in their first week. The rest of the stock in the shop turned an almost insignificant profit and merely existed to buff the selection a bit and keep people in the store.
Late fees were an annoying issue but a necessary evil when you only have X units of stock and if they aren't returned you can't rent them out again. We were pretty lenient on reducing late fees to sensible amounts but some people were terrible at bringing things back and incurred ridiculous fees.
Physical rentals are a pain. On top of the X units issue, you have to keep them in good rentable condition and customers weren't very obliging on that front either. Digital delivery makes so much more sense now that we have the bandwidth to acommodate it. I can see a small market might still exist, but you can't afford to scale it anymore. Blockbuster was always going to die.
>engage in financial shenanigans to make this quarter's results look good, to prop up the stock price because shareholder value,
That's behavior of a shitty CEO and you will get that whether a company is public or privately held. A CEO that bends to every short term whim of an investor will always destroy the company.
One other problem this creates, which the article doesn't touch on, is that many employees in the R&D economy are offered stock options in lieu of 401(k)s or a more liquid equivalent compensation. And an IPO is the most straightforward way to cash out. Yes, it's possible to cash out during an acquisition, but anecdotally, it seems as if more people holding stock options have gotten screwed during an acquisition than during an IPO.
I already discount equity grants in early-stage startups because they're so risky, but if management's stated goal is acquisition and not going public, I discount that equity even more. I see acquisition as a big question mark when it comes to a private company's common stock, but regular employees tend to be treated much more fairly during an IPO.
I'd also like to see regular employees given the option to cash out some of their equity during private funding rounds. Usually this route is only given to founders, but if it were common that employees could do so as well, that would reduce risk and make the uncertainty of an IPO or acquisition more tolerable.
I just value illiquid stock options at $0 when it comes to comparing compensation. It’s sumple and sufficient. A modestly successful liquidity event multiplied by a tniy probability of success is essentially zero.
Eh, I've read the "value at $0" thing and don't really agree with it. Admittedly it's very hard for a rank-and-file employee to put a reasonable value on an equity offer, but I think valuing at $0 is potentially leaving money on the table.
In the end, though, I'm going to pick a company that I'll be happy working at, regardless of the compensation package, so maybe it doesn't matter that much.
Would you agree that the median and mode of outcomes is $0, with the mean being somewhat higher?
As a "financial vehicle" options have nonzero value, but that doesn't imply one should expect a payoff, especially given very limited bites at the apple.
Meh, founders still got theirs. What do employees matter? They should working for you in order to change the world achieve enlightenment basking in the glow of your genius.
IPOs tend to be a lot more valuable. It’s more an implication of a successful exit. In either case, you have to pay off your debt and preferred stockholders before you see a dime from a liquidation event. A low value liquidation can leave zero on the table for common stock holders.
Yeah if I ever went to a non public “paid in stock” I would pay a lawyer to ensure my contract let me cash out whenever I wanted, and couldn’t be diluted, and didn’t have lower payout priority.
Your lawyer can write that contract but the other side needs to sign it. And unless you are a resident magician somewhere I really don't see how you would get that done, I have never seen a company agree to terms that would begin to approach that. Even management and early investors regularly get diluted and if they don't want to dilute in later rounds they have to pay up. As for the 'payout priority' (you probably mean 'liquidation preferences'): later investors tend to have a pretty powerful hand to play when it comes to establishing their priority: if they don't get their liquidation priority over and above the bulk of those already in the company they simply won't do the deal. And your 0.01% of the stock certainly isn't going to be allowed to block future rounds. So I really don't see any of this happening in a realistic setting.
You mistake what I'm saying -- I'm not saying "my lawyer writes the contract"
I'm saying that for a non-public startup I would want to have a lawyer ensure that my contract allowed me to exercise the stock grants the company claims to be offering.
I am following that with the simple "if they aren't willing to sign such a contract, neither am I". I have no expectation of forcing a company into a contract they disagree with, I'm saying that if I sign a contract with such a startup it's going to give me a reasonably predictable income. That means either a real and competitive salary, or an ability to exercise the "stock compensation". I'm not going to subsidize someone else.
I doubt any company would accept those terms. Unfortunately the power dynamic is on their side during these sorts of negotiations. Even if you're amazing in your field, special terms like that wouldn't fly.
I'll happily take payment in cash if you don't think that I'm worth paying in actual stock with actual value.
If you're paying in stock with the argument that I'm buying into the company, then I should be able to realize that income.
If you're paying in stock without actually saying I can cash out that stock why would I accept being underpaid.
If you are an engineer that takes a salary+stock comp where the company gets to choose the value of "stock" -- is it salable, is it zero-value until we've repaid our creditors is being foolish.
If a company is not willing to guarantee your ability to cash out they are /explicitly/ stating that the stock part of your salary is worth zero.
If that's their claim I would expect a salary >200k to compensate.
For better or worse, your expectations do not match reality in some (many?) cases. I'm sympathetic to the idea that many early employees get screwed over by promises of riches through equity, but the solution to that is education. Sometimes these big bets pay off; most of the time they do not. If you're unwilling to place one of those bets, that's fine: there are plenty of more mature (or better capitalized) companies that you can choose to work for instead. Some people are willing to make that bet, or have at least decided that the work is interesting enough to take a lower salary. You're free to look down on them for their decision, but I suppose that says more about you than about them.
They don’t want to go public because they have insane valuations yet aren’t profitable. Going public would mean losing a significant amount of paper wealth. The stock market doesn’t value “world changing technology” (flimsy startups) as highly as investors in Silicon Valley.
The uncomfortable on point answer buried in the discussion.
VCs learned their dotcom bust lesson well. The cycle can drag much longer if you don't go public. The exit target now is a sale to an existing public buyer, skipping the market validation stage altogether.
Equity aside I don’t see any good reason to go public other than raising some capital. You no longer are free to operate as you wish and instead have to focus on dividends and pleasing the holders.
That has been Matt Levine's thesis for a while, "Private markets are the new public markets". The public markets used to be the biggest source of capital, subject to stringent rules and regulations. Now you can get just as much money from the private capital markets, and it doesn't come with all the pesky rules around reporting.
> Now you can get just as much money from the private capital markets, and it doesn't come with all the pesky rules around reporting.
This is true but having lots of small public investors sometimes makes it easier to maneuver than a handful of big fish / massive investors akin to many small customers compared to 1-2 big clients that dictate your fate.
Public markets are similar to product development that targets many small customers compared to private markets that are like services / contracting that have a few or one big client, the latter is more risky and sometimes you are directed by the big fish rather than not being worried about having to please everyone.
Public markets are directly tied to everything now, the stocks, bonds, wages, jobs, retirement, funding, etc. Equities were created to give everyone a chance to invest and ride the tide up with the big boats, if companies are already tapped by the time they go public, public markets, retirement and market based wealth will not be as robust.
It depends on how long cheap money will be available. It can be that the market is changing tack at the moment. A lot of capital is flowing in bonds at this moment.
There. It's very difficult to get there, and it shifts the focus from creating value and revenue to looking good and calming down lay people who now control you, plus feeding an army of parasites charging a bajillion.
Today, it's also prone to sudden random fluctuations because an algo-trading software Bayes classifier decided to sell based on historical data it pulled out of its shiny metal ass.
Even with majority voting rights, you're still subject to much more stringent accounting and reporting requirements, and Wall Street can and will punish you if you don't set and meet reasonable quarterly and yearly revenue guidance. A lower stock price means less access to future capital, so you still end up doing things to please the market.
Don't go public. Look at major companies like Facebook that have become massive user data and time exploiting machines for the sake of increasing share price. Stay private and recognize what place your product has in the world - many ideas CAN be billion dollar ideas if they pervert their original vision, but many ideas ought to remain much smaller and focused to stay true to themselves, not investors.
And is this article really arguing that Americans are underinvested in the stock market and not grossly overinvested?
Valve is great when things are interesting to work on, but I wouldn't consider them a company that are role models. The downside to Valve is since everyone is their own boss, maintenance becomes something no one does. They need to solve that problem before I'd consider them a good company role model.
Could they pay a higher salary for maintenance to compensate? Like a reverse auction. Then it becomes something that the people who are most desperate for money will do.
I'm sure many private company employees wish they would go public so they can enjoy the liquid stock appreciation that google / apple / fb / amazon / netflix etc employees have
liquid stock in a growing company is one of the most powerful currencies for attracting and maintaining talent. private company stock is generally valued at at least a 30% discount to public stock, and for an early-stage startup it is hard to place any value on private stock at all
some of these reasons are quite spurious. the amount of detail you need to disclose about your r&d is nowhere near a level of detail that would help competitors, and is probably less than would be disclosed through the press anyway. alphabet discloses almost nothing about many of its subsidiaries, and big public pharma companies generally dont even list any drugs earlier than phase 2 in public filings
the whole GAAP thing is also a weak argument. investors know that tech startups arent going to have tons of tangible assets and pp&e and actually like capital-light models. investors are smart enough to figure out when gaap is useful for valuation and when it isnt
I don't think the issue is really any confusion around whether or not GAAP is appropriate for many companies, it's just that there's no alternate standard, and that can be confusing. My understanding is that "non-GAAP" can encompass a variety of different methods of calculating performance, and it's harder for an investor to evaluate if the chosen method actually represents the business well, or if it was just chosen because it yielded the best numbers.
One obvious reason that's never mentioned is that staying private gives capital more leverage over labor. It's easy to lock in a workforce for round after round of startup funding as they wait for an IPO that will convert their paper wealth into something tangible.
There are a few comments here about how private investors are able to provide sufficient funding that startups don't have to go to public markets anymore.
If that is the case, then the self-correcting market mechanism should be : startups don't go public sooner -> employee options are worthless -> employees realize this and start asking for salaries in line with public companies -> private investors don't have enough capital to compete on "liquid compensation" with public companies -> startups are forced to go public
Though I think there is still fair bit of time before this happens; too many people still cling to their beliefs in the lottery tickets aka "perpetually illiquid startup options"
"One issue is the narrowing of investment opportunities for working Americans." -- really? Only 54% of American's hold any form of stock at all, and most of those only have stock in the form of a mutual fund.
"Another source of disquiet is intensifying industry concentration." -- concentration or horizontal scaling? One of the things I disliked about working at Google was their claim they owned all my work at all times because they were literally in every single business associated with technology[1].
"Finally, there’s the societal benefit that stems from the institution of public capital markets." -- again what societal benefit is that?
Startups, and by that I mean venture based ones, not the local pizza restaurant or nail salon, absolutely would love to "go public" and have some nice liquid event. But they screwed a lot of people at the turn of the century out of their money and as a result that route was closed down. There are at least hundreds of companies that start, grow a bit, and get acquihired or otherwise consumed by big companies. The people then do their time (18 - 24 months typically) at BigCo and then roll out to do it again. If they could go public and take your money without consequence I'm sure they would :-).
[1] No, this probably would not hold up in court, but it was what legal told me when I asked them for a definitive statement.
I'm surprised to see so few mention a more direct ostensible 'fiduciary duty.' Going public, especially without share tiering aimed at letting the owners keep control, involves yielding control of your company to shareholders. And this often creates a conflict of interest. Shareholders, generally, are not holding shares because of any affinity for a company. They're holding shares because they think those shares will appreciate and give them more capital.
SpaceX is a great example. They don't want to go public simply because their longterm goal is not something that has an immediately apparent path to monetization. And on top of that it's also very high risk. Elon is driven by ideology which is, in my opinion, a great thing. But it's not something that would work well at a public company.
As another example take something like Steam - the primary PC gaming platform. In spite an effective platform monopoly, they've chosen to never 'squeeze' their position. And they're doing better than ever for it. On the other hand they could likely multiply their short to mid term revenue in exchange for killing themselves in the long run. When the owners of a company are more interested in increasing their net worth, than in creating a solid long term company - it creates a major conflict of interest.
In theory my argument should fall flat because of market efficiency. If making decisions so obviously hurts a company's longterm outlook, then that should theoretically be factored into the price of a stock. But in reality quarterlies seem to drive the market.
> In theory my argument should fall flat because of market efficiency. If making decisions so obviously hurts a company's longterm outlook, then that should theoretically be factored into the price of a stock. But in reality quarterlies seem to drive the market.
It shouldn't. Market efficiency is precisely why we'd "lose" SpaceX if it went public now. The market does not optimize for the best future of mankind. It optimizes for short-term profits (those who don't get outcompeted by those who do). It's a powerful solution to some problems, not all problems.
If a startup that hires you is not interested in ever going public does that mean that the stock options they give you are not likely to ever be worth anything?
This was something I never considered as part of the model of the US market. I have long considered US equities to be overbought based on P/E ratios and other fundamentals when viewed on a historical perspective. However, I never took into consideration (even though I was acutely aware of it) that there are thousands less public companies now than 20 years ago.
When you view it as a supply/demand, it becomes more obvious. There was ~27 trillion that people had in the US market in 2016, from the numbers I am looking at. And that's with roughly 3,800 companies, giving us an average market cap of about 7.1 billion. If that number were to go back up to ~7,500, all else being equal we would very likely see those market caps cut in half as the funds dispersed across the rest of the market. Yes, this is a vast simplification and there are many factors at play like fundamental ratios and proper valuations to determine what companies are worth. But I think this is something that is certainly a factor and not something I had considered before.
I guess the model has changed. This is bad for your average unicorn startup employee though, liquidity for any real purpose is limited. There's no price transparency and there's no upside. Maybe this is a strategy to push for deregulation. But it is fleecing the public in another way by restricting assets for purchase even if the goal was to prevent outright fraud originally. All of that money has gone into housing, the stocks that we can buy... But there is also massive consolidation being driven by technology. So there will only be a few winners by definition. This is why China and Russia closed their tech markets to US companies.
Perhaps US startups can't go public because they will get exposed like Snap? How many private startups/unicorns today are truly crushing it? Very few.
Going public was a great way to extract money from the public, but not so much these days. The money is being extracted before hand. VCs are getting paid irrespective of how the companies perform. The money being risked is not their money, but money raised indirectly from the public. Your 401k or pension might be part of the billion+ that Uber raised. :D
Acquisition is a great way to exit for those with skin in the game, angels and series A investors who are more likely to risk their own capital.
And the reason is because there is lot of money to be had in private markets, especially with companies like Softbank raising and giving out tons of money.
If we dig further, this is an after-effect of keeping the interest rates low for a long time. That means access to credit is much easier. So, there is no rush to profitability and going public.
But, given that interest rates are now slowly rising I predict we might see more and more companies going public and IPO to raise money.
I remember listening to a radio broadcast in 2002 explaining the Internet stock bubble. One thing it pointed out is that, in the late 1990s, startups went public much faster than they normally did.
It seems the broadcast implied that an average startup, prior to the 1990s bubble, took about 10-15 years to go public. According to the broadcast, a company would go public once the business model was proven. Going public wasn't an "exit" as we consider it now.
It's interesting that a bunch of startups in Australia have just gone public, some of which seem amazingly early-stage. I worked for a startup (ultimately exited to Intel) and recognise the stage that these guys are at as "pretty damn early" (the bit where you're almost living or dying based on B2B customer prepayments, etc) and am amazed that you can now apparently do this while public.
Ouch. Would hate to have had to file a quarterly public report showing our wounds to the public...
People have had it with stock market manipulations where a few Wall Street crooks make off with all the money and the rest are left holding the bag, plus nobody wants the overhead of GAAP. Surprise surprise. Poor Wall Street crooks, where is the new yacht going to come from now, and what’s even scarier, who is going to pay for it now that noone trusts them any more?
Would it help to change the rules such that whatever "shares" (RSUs or otherwise) are granted to private company employees count towards the private company shareholder limit?
You would either have to go public or compensate employees at public company salaries.
It's not all gloom and doom. Who are buying these companies? Google, facebook, amazon, Microsoft, etc. All public companies. If it's a good buy, stock appreciates immediately and in longer term.
For the most part, only rich people can hand their cash over to venture capitalists and private equity groups to invest in young firms. That means small-time investors have no way of investing in most of the new, fast-growing startups, according to the authors.
Seems like authors aren't considering ICOs as a new form of IPOs for startups. Any computer and finance literate person can invest, not only small American residents. Volatility is higher in ICOs and there are practically no regulations, so investors should be more careful. Nonetheless, the underlying basic concepts are the same
I haven't seen an ICO yet that is even close to as realistic a proposition as your typical IPO would be. ICO's are for the most part simply scams. For an IPO to take place you have to have a business first.
You could ICO as an alternative to IPO I would guess as long as you meet the same requirements. In this case the ICO token would be your stock. So ICOs have the potential to disrupt wall street stock recording and transactions. Essentially remove wall street entirely if you want. Is that good or bad? Exchanges have stop loss and other braking mechanisms/regulations.. Are those desirable?
How? For companies that have gone through an IPO, there is GAAP, SOX, SOC2 controls, etc. These were all designed to help investors be informed so they can manage risk. With ICOs, what have you got? "Trust us, we've not written a bug into our system that will give us unlimited coin to offload after the price reaches a certain point."
Understanding finance, risk, time valuation, researching the team behind the startup, understanding the white paper, not investing more than what they can afford to lose, reading reviews and comments online, automating orders to sell before the tokens reached a certain price.
The road to hell is paved with good intentions... The government has paved most of the road when it comes to small businesses (including startups) being stifled by regulations and either going offshore, remaining private, and so on... Basically the government sucks at almost anything. Why do people advocate for their growth and increasing power?
>>Basically the government sucks at almost anything. Why do people advocate for their growth and increasing power?
Because people don't know what and who to trust. There is so much information out there, and so many conflicting claims about it all means, that there's no easy way to tease out what's true. Anyone advocating for a particular policy comes across as an ideologue, because they cannot possibly convey the body of facts that informs their position, meaning what they mostly present is fervent belief and insistence that they are right.
This point is made most dramatically by looking at the growth of private equity investment through the early naughts. Some relevant plots can be found in [1] which uses the data to advocate for deregulation, which I do not believe gets at the underlying issue.
[1] https://www.cato.org/cato-handbook-policymakers/cato-handboo...