Entrepreneurship

Startups IPO. Why shouldn’t VCs list publicly?| Sifted

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This week impact VC firm Forward Partners announced its intention to list in London, joining the likes of Draper Esprit, Augmentum Fintech and Eurazeo in the small world of VC firms listed on a European stock exchange. The aim is seemingly to make it easier for individual investors to get exposure to VC, while making it easier for the firm to access a larger pool of capital. But is it a good move? And is there a trend here?

The idea of a VC firm being listed is not exactly new.

American Research & Development, the very first modern VC firm founded by Georges Doriot right after World War II, was publicly owned. But as a listed closed-end investment company, it was prohibited by regulators from rewarding its employees with equity stakes or options in either the firm itself or their portfolio companies. This lack of incentives for senior dealmakers was ultimately reflected in subpar performance.

The idea of listing VC firms has recently resurfaced within a new context, but this time, the goal seems to make sure retail investors can more directly participate in the VC game.

For a while, the focus was on portfolio companies going public.

Because there were fewer and fewer IPOs, VCs’ outsized returns seemingly benefited institutional investors and high net-worth individuals more than middle class households. But the fact that the IPO engine is speeding up again doesn’t seem to be solving that imbalance. Retail investors can now buy shares in the likes of Uber, DoorDash, Adye and Deliveroo, but so much more money is still made on inaccessible private markets. Why not offer retail investors the opportunity to become shareholders of VC firms themselves?

Meanwhile, there are certainly key trends making it easier to operate as a VC firm on public exchanges.

For one, tech companies are a less mysterious asset than in the past. As time goes by and the number of successful startups goes up, we’ve gained a much better understanding of how returns can be realised. There is now enough data, especially in segments such as software-as-a-service and marketplaces, to be able to analyse the performance of a VC firm in an objective manner. This makes VC as an asset class easier to grasp for the analysts, researchers and commentators that make public markets tick.

Reasons to be critical?

But there are also reasons to be critical of the unprecedented appetite for VC firms going public. First, some could point out that the game is vulnerable to adverse selection. Why would the best VC firms consider going public and complying with the more demanding regulatory framework, when their funds are already oversubscribed with money coming from the best institutional investors? While outsized returns are concentrated in just a few firms, isn’t going public only a second (or third) best option, thus giving retail investors access to VC firms that are average at best?

I’d counter that such criticism is not only unfair, it also misses the long-term trend. When investment banks started listing in the 1970s, the very first to jump on board weren’t the biggest or the most prestigious. It was more niche players who moved forward at their own risk and discovered the new regime in the process, with all of its advantages and disadvantages. And it was only after almost 30 years of prudently observing from afar that Goldman Sachs, arguably the most prestigious brokerage firm, decided to follow with a listing on the New York Stock Exchange in 1999

The same happened with private equity firms; Blackstone went public in 2007 and KKR followed only three years later. Those moves didn’t come without doubts and criticisms. Some were worried that investment firms going public would break the rather virtuous incentive structure carefully developed over decades of operating as private partnerships. Others were simply wondering if the whole thing made sense from a shareholder value perspective: wouldn’t private equity firms, just like conglomerates, be valued at less than the sum of their (portfolio) parts? (This kind of discount definitely existed back when European VC firm Rocket Internet was still listed in Frankfurt, and arguably played a role in their recent decision to delist and become a private entity again.)

VC is eating financial services

Overall, I tend to interpret the move in the broader context of venture capital eating financial services. VC as an asset class is about to scale up big time, a trend that’s illustrated by both the burst of large-scale new entrants like Tiger Global, and the fact that incumbents feel the urge to raise ever-larger funds if they want to remain competitive.

With the multiplication and diversification of players, and the general trend of scaling up, it’s likely that VC will become more central in the financial world — and that the whole financial services industry will reorganise itself around it.

VC firms going public is integral to that trend. Again, the disadvantages are known (distorted incentives, additional regulatory constraints, conglomerate discounts). But the advantages are just as obvious: public markets are where you can access deeper pools of capital, whether it’s from institutional investors who prefer to invest in liquid securities, or from retail investors who want to participate in this rewarding game they’re all reading about on Reddit.

The pool is so deep, in fact, that it makes it possible for VCs to experiment with new long-term oriented models whereby ‘permanent capital’ enables them to be even more patient investors — quite a paradox since we’re talking about volatile public markets! And it could make even more of a difference in Europe, since the Old Continent lacks the deep-pocketed institutional investors, such as pension funds and endowments, that bankroll the largest VC firms in the US.

It will be a rocky journey, with fringe players and bold innovators pioneering the move and being confronted with its many unknowns, while some retail investors will eventually be disappointed in the outcomes.

On the other hand, the influx of capital will contribute to hastening the scaling up of VC and the upgrading of the financial services industry to serve a new breed of companies; while providing researchers and analysts with more data and information so as to sharpen their models and do a better job of guiding everyone through the VC jungle. Overall, it’s a good thing!

Nicolas Colin is cofounder of VC firm The Family. He writes a regular column for Sifted.

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