Disruption and Innovation in the Process of Going Public Over the Last 12 Months

In this episode of Intellectual Capital, Cowen & Company Co-President Larry Wieseneck speaks with David Erickson, Senior Fellow at Wharton Business School, and Grant Miller, Head of Cowen’s Capital Markets Group.

At the halfway point of 2021, these three capital markets experts discuss the current state of the capital markets. They also speak about the process of taking a company public including IPOs, Direct Listings, and SPACs. They delve into how SPACs have played a role in allowing emerging growth companies to go public in the last 12 months and what they believe caused this change.

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Transcript

Speaker 3:

Welcome to Cowen Insights, a space that brings leading thinkers together to share insights and ideas, shaping the world around us. Join us as we converse with the top minds who are influencing our global sectors.

Larry Wieseneck:

Hello and welcome to the third episode of Cowen’s Intellectual Capital podcast. I’m Larry Wieseneck, Co-President of Cowen and Company. And once again, I’m joined by my good friend and former colleague, as well as current Senior Fellow at the Wharton School of Business, David Erickson. We’re now almost halfway through 2021, which is pretty hard to believe. And today we’re going to take a step back and discuss the process of going public, as well as what we’ve seen in the market so far this year. I’m pleased to say we’ll also be joined by a very special guest. Please welcome my partner Grant Miller, who is head of our Global Capital Markets business here at Cowen and Company.

Grant Miller:

Hi guys, great to join you. And I think it’s been probably 15 years since we’ve all been together talking about similar themes when we’re at Lehman. So good to join you guys again.

Larry Wieseneck:

Great to have you on board and let me turn it over to David.

David Erickson:

Great. Thanks, Larry. So, let’s start with the going public process when you look back a year ago or 18 months ago. And I think about my spring course last year at Wharton, and we talked about the going public process being really two primary ways. One was the traditional IPO process. And the second, which has been emerging in the recent years, has been direct listings. And since then, SPACs really exploded in a significant way, especially for emerging growth companies. So now you have three paths. You have the IP, the traditional IPOs, you have direct listings, and now it’s combining with a SPAC. What do you think really caused this change?

Larry Wieseneck:

Well, David, I think I have to start by just agreeing with you that I really do think there are three paths, and maybe I’ll even throw in a fourth, theoretically, which has been around for a while as well, which is a reverse merger. So we’ve certainly seen companies do that as well. But I think in terms of now the primary paths, I think SPACs have taken their position. And if the last 18 months are of any directional import, I’d say SPACs have really become a second choice, so to speak. There’s IPOs, there’s SPACs, and then well behind that at the moment is direct listings, but may not always stay that way. I think that 2020 does appear to have been a moment of a sea change for many things in the capital markets. And certainly the way you described, the kind of an explosion of SPACs is one of them.

Larry Wieseneck:

And I chalked it up to maybe two or three themes. The first is that what we saw in the volatility of the first half of last year when the pandemic first kicked in, was that the concept of in a very, very challenging market moving forward with committing to an IPO in the many months that are involved in getting ready and then the process, which is still very similar in many respects to what the process was to do an IPO 20 years ago, 30 years ago, 40 years ago, was a bit less appealing in a volatile market. And what SPACs provide, and maybe Grant can get into more detail on this, is by the time it becomes known to the public that a company is combining with a SPAC, the transaction has been significantly de-risked versus the IPO path. And I think that de-risking had significant value to companies considering going public during the most challenging parts of last year, so call it the first half.

Larry Wieseneck:

What then happened was that many of the deals that came to market during that period also were solving big problems. And when I say big problems, I mean situations like core infrastructure for the future of some of our important industries or changes that were happening. Those types of companies need a lot of capital, and the revenues and the cash flows are way down the road. And you could build a business like that in the private market over a long time, doing multiple rounds or via a SPAC. What was shown to be the way, the case is between a pipe and the capital that the SPAC brings to the table, they could secure multiple years worth of capital. And that became very alluring in these hyper growth opportunities and areas. And I think that they both converged in 2020, because during last year, what we saw was the solutions to a lot of big problems were being created by the companies that needed capital. And SPACs created a real vehicle there, but maybe we’ll turn it over to Grant. I mean, you live this every day. Do you have a different read on it?

Grant Miller:

No, I agree. And maybe I’ll just take a step back and just to set the stage in terms of these three primary paths. They’re not mutually exclusive in my mind. There are different reasons to go down the paths. But when you talk about just the direct listings, they’ve only been, there’s a lot of talk, there’s only been two this year and about five or six over the last few years. IPOs have been, it’s been a great year for IPOs one of the best in 20 years. Probably the most active in 20 years. There have been about 160 traditional IPOs this year. And then when we talk about SPACs, I actually differentiate between the listings part on market, where these SPACs go public and start trading at 10. And then the second part, the De-SPAC, with [inaudible 00:06:28] the merger combinations. And so I think those two things sometimes can get conflated.

Grant Miller:

And so with respect to the listings part, there are over 400 SPACs seeking targets. And by the way, I know about 300 that are publicly on file, ready to go get listed. But the more meaningful part of that market is actually who’s closed business combinations. And this year, while there’s been a lot of talk, they’ve only been about 40 business combinations that have been completed. And so this is a lot of what was going to play out and we’re just starting to really see. But just in terms of what happened last year, the pipe market associated with the SPACs was the big deal.

Grant Miller:

And the reason, my view of why this has happened is if you look at a lot of the SPAC targets, they’ve been high growth companies and earlier stage in terms of revenue progression. Those are harder companies to take public because investors don’t have as much time to really get under the weeds and understand the core business that they’re laying out. In a pipe process, they can spend weeks and go into a data room and gain that conviction around an early stage company. And so you’re right, by the time it gets announced, most often over 90% of the time, that’s coincident with a pipe being announced, with generally institutional investors that have done that work. Right? So in my mind, it’s really opened up a new area that hadn’t really been there previously.

David Erickson:

So now when you guys, you guys talk to private companies every day, right? And with, as you said Grant, the IPO market’s been very robust this year and the SPAC combinations have really slowed down a bit. How do you differentiate to the different, and they’re all different, right, in terms of the private companies, how do you differentiate the three paths?

Larry Wieseneck:

I would actually take a step back and just say David, I think you have to throw in there as well, just doing another private round, right? Because going public is not the right answer for every company and certainly not at every point in their life cycle. And so our conversations really start often earlier than “How do I go public?” It’s “Let’s think about our strategy, and how do we match our financings and importantly, our ownership.”

David Erickson:

Right.

Larry Wieseneck:

Who should own us?

David Erickson:

And by the way, there’s a lot of great private companies that will stay private. So, you know, no question.

Larry Wieseneck:

A hundred percent. And so I would say that in, we don’t always get the opportunity to be involved that early, but when we are, I think the conversation really is very typical would be, “Should I do a C round or something even later?” You know, it could be, “Should I raise a growth equity round and bring in a new partner to help me get to the next level? Or should I go down a path of going public?” And that tends to be driven by more than anything else, is the leadership team public company ready? Is the business one that will be a viable long-term public company because, you know, whether it be through a SPAC or an IPO or direct listing, that’s literally the first half of the inning of any one of the future as a public company. And so that’s where a lot of the conversations that Grant and his team and the rest of our bankers have with folks.

Larry Wieseneck:

And what’s interesting about SPACs in particular is SPACs often come out of a conversation about the quantum of capital one can raise in the private market, and is the SPAC path a better path, because we tend to see more capital raised in the combination of the cash and trust from a SPAC and a pipe than we do in a typical IPO. So they’re not even often the same companies. So again, I would ask Grant because Grant spends a lot of time on this, but we often will see it’s a private path and/or SPAC on one hand, and then it’s an IPO on the other. And very rarely is it IPO or SPAC, but again, Grant.

Grant Miller:

Yeah, well, I’ll just, I mean, it was just the, in terms of direct listings, before I get to that, there are so far similarities in what the folks that want to go to a direct listing and rationale for it. So when we ask clients, “What are you trying to achieve?” Now, the rules are recently changed where you can actually raise primary proceeds in direct listings. That has not happened yet. So by and large, those are much larger companies. Those companies are well known to the general public and have following in and of themselves and don’t have a, so far a need for primary. So I think that, at least in the near term, I think that’s going to be a consistent theme, in large part because direct listings have a harder time to get to know, and investors, really a lot of institutional investors, [inaudible 00:11:46] . So I think that that process is best-suited I think right now for large companies.

Grant Miller:

In the difference between the SPACs and the IPOs, Larry, I think you’re a hundred percent right. We’ve seen so many situations where we’re just talking to a company about the capital needs. And oftentimes that will start as a later stage private or crossover that then goes in one or multiple directions. And oftentimes what we saw most recently is that leading to SPACs, and then the pipes associated with those SPACs. And with IPOs, it’s generally speaking, more of a process that’s undertaken, and that preparation will go towards that. We haven’t yet seen many companies go down, what I would say, dual path, traditional IPO and SPAC IPO. But that may emerge as a trend given how many seeking SPACs there are and how aggressive [inaudible 00:12:50].

Larry Wieseneck:

Grant, you bring up a great point. And maybe David can get into this later. But what I think is, this concept of dual path, which historically was viewed as you file your IPO publicly, and you thereby get the potential M&A buyers to come forward to try and jump in before you might move forward with your IPO. That is a tried and true path. Very few, not every company goes down that path, but there’s certainly enough that say, “Let’s use the IPO filing as a way to do a last check to determine whether there’s a better strategic deal.”

Larry Wieseneck:

When we see a dual path in the SPAC arena, it’s a company that has a slightly different thought process. What they really want to do is keep all those conversations private longer. And so they might be looking at an M&A alternative to a SPAC, but they view it all as under, that’s a private approach because you don’t have a public filing in a SPAC combination until the transaction has basically been fully committed to by the pipe investors, et cetera.

Larry Wieseneck:

So one is a public dual path and the other is a private dual path, which again, wasn’t really something we saw until 18 months ago. And now we’re seeing quite a bit.

David Erickson:

So, Grant, I want to touch on something you said about the direct listings for larger companies. And this goes to a conversation I had this week with a director, a lead independent director of a large Decacorn private company, so worth privately more than $10 billion in equity value. And he was saying, “We’ve raised a lot of cash and we’ve gotten approached by a number of SPACs. We don’t want that dilution. So we’re just going to go via direct listing. That’s the only thing on the table.” And it’s ’til now been for larger companies. Do you see the direct listing path starting to emerge, especially with, as you mentioned, the New York Stock Exchange rule about being able to raise primary cap, do you think it’s going to start to emerge for smaller and middle size companies?

Grant Miller:

So we’ve had a number of conversations about it, although for what are called kind of the smaller and mid cap IPO sizes, we don’t hear it as often. And I think that’s really due to what I was just touching on before, which is the need to build a shareholder base. Many of these very large private companies often have it, or don’t really need it for future growth and access to the capital markets. And so the direct listing path isn’t as well suited in my view to be able to establish those long-term relationships along the way. And so as, so when we talk to clients, we ask, “How do you define success in getting public?” And if it’s lack of, need primary capital immediately, and there’s sellers that want to come out, which is going to be an important part of it.

Grant Miller:

And direct listing is, would be, is an ideal scenario for it. But for many of our, you know, we do a lot of disruptive companies. That’s kind of what we spent our time on when our IPOs, it’s not as well suited for those. And so I think the jury’s out, but I wouldn’t be surprised to see it’s similar to the client, the folks who you’re talking to, that kind of 10 billion+ type of companies continue that path. And those that are more growth-oriented that are earlier consider the traditional SPAC route.

David Erickson:

So now with something like 420 SPACs or north of 400 SPACs out there looking for a private company to acquire, and with the SEC, having raised more questions in the last couple of months about, you know, disclosure and things like that, the SPAC market, as you mentioned, combinations have really slowed down considerably in the last few months, as well as some of the IPOs. How do you see that market evolving over the next several months? What are you telling clients today?

Grant Miller:

Well, I think it’s going to be an incredibly interesting three months. More, I mean, and I guess it takes a capital markets person to get excited by these things, but there is, we’re going to see closing start at a rapid pace. So you’re a hundred percent right. The SEC slowed things down with additional disclosure and some changes in warrant treatment. And most of those are now done. And so by the proxies that have been filed, we’re anticipating just a torrential wave of closings. So I mentioned that there’ve been 40 or so, maybe 45 closings so far. Over the next three months, and that’s for year to date, we’re anticipating 80 closings in the next few months.

David Erickson:

Wow.

Grant Miller:

And so we’ve already started seeing like one closing per day start to click off, and that’s very, so all the action is just starting to happen now in terms of what our redemption levels look like? Because a few months ago, a lot of these SPACs were trading well above trust value into the close.

Grant Miller:

And so redemptions were low. That is no longer the case. Most 80% of these announced deals are trading within 5% of trust value. And so the jury is out in terms of where redemptions are really going to be. And so all the [inaudible 00:18:26] is just starting to unfold.

Grant Miller:

And there are a couple of important things to think about. And, by the way, it’s just the most recent data set, which is not that large, but I’ll reflect on it anyway. The last eight combinations that have closed, seven of them were trading very well, well above trust, one is slightly below. So the very early data is that the market is functioning like we see. And, by the way, as we go forward, the other real critical pieces, not just the closings, because that’s important, but because each of these deals had a pipe associated with it, the vast majority, that pipe liquidity is not on the market yet. It generally takes about six weeks for those pipes to get registered.

Grant Miller:

And so the key will be looking at some of these closings to start to roll out, and then the liquidity events for the pipe investors who have been handcuffed for five months as the SEC has gone through this stuff. So, great question. And it’s going to be very important to see how these start to roll out and how they start to trade. And it’s a very different dynamic than the front end listings, which can [inaudible 00:19:40].

David Erickson:

Any additional thoughts?

Larry Wieseneck:

Well, I just want to make sure we cover, your question had two parts to it. And one was implicit, was the discussion about the SEC being more focused on this. I think the SEC has a, it’s not just the SEC. I think the regulatory environment is something that really is behind a lot of what will drive this back market long-term and has driven it. My starting point is, I said earlier that SPACs are in an evolutionary product. What I didn’t get into is, you know, SPACs have been around since the 1990s. But yet in the last few years they’ve really taken off. Right? And that was your question about why the last year and a half. But the IPO process that we live in today, with only modest changes, is the same as it was after the 33 34 and 40 Act came out.

David Erickson:

Right.

Larry Wieseneck:

And so the regulators have a huge role here because what SPACs are actually providing, and direct listings in some respect, are solutions to challenges of the, we’ll call the modern capital markets, that the IPO process really hasn’t caught up with. So we encourage the work of the SEC and others to think through the overall process, and in particular, to stay focused on what the capital markets are all about, which is the capital markets are there to provide access to capital for the companies and then for investors to provide a safe environment for them to invest. But what we can’t legislate against is risk and return. And so no different than if it’s an IPO, a direct listening or a SPAC, when a company has higher growth potential, they’re going to have usually greater risk. And we have to make sure we don’t legislate against people being able to price that risk and determine they want to buy businesses that are more stable or those more risky.

Larry Wieseneck:

And again, our capital markets provide opportunity to both. So it was just, I think, an important point to keep in mind as we go through this. I think the other thing that Grant can highlight is while we have seen many early stage and growth companies come to the SPAC market, the SPAC market is broad, just like the IPO market. We’ve also seen an enormous amount of cash flowing and relatively stable companies that also have used the SPAC market. And so it’s gotten so large that it’s almost impossible, what we’re trying to, in this conversation, describe the IPO market or the SPAC market.

David Erickson:

Right.

Larry Wieseneck:

Because they’re really all sub markets based on sector, stage of company, et cetera. Anyway, I think that’s what’s so interesting about these developments with as many deals getting done as there have been.

David Erickson:

Right, so let’s hone in on the traditional IPO market for a second. As you guys have both said, it’s been pretty robust this year. It’s continued in a very robust fashion, really over the last two years, despite the pandemic or since the pandemic, I should say. Are there any sweet spots in the market today and how do you expect the IPO market to really continue on as we go to the balance of the year?

Larry Wieseneck:

Grant, why don’t you take that first?

Grant Miller:

Sure. There’s been a little bit of a pause just recently, but the activity levels picking up in a very material way. So the first quarter was the best quarter for IPOs in 20 years. So it has been, it’s been torrential. And this is going back to the first comment, there’s great IPOs and there are great SPAC combinations. I actually have a hard time differentiating them. I differentiate more on the type of company and what they’re going after.

Grant Miller:

So what I see in the traditional IPO market is the earlier stage companies, those that don’t have as much predictability in revenue and EBITDA, et cetera, to be really strong in traditional IPO market, more in the life sciences area.

David Erickson:

Right.

Grant Miller:

So that’s a third of the IPO market this year far.

David Erickson:

Yeah.

Grant Miller:

And the two thirds are, people were paying for growth. Growth and disruption where it can be predictable. And so that is really the parts of the market that have been so, so strong. And it’s almost the exact, interestingly, the exact inverse in the SPAC piece parts of the market. And so as I look at it and I define “early stage,” I look at companies that are predicting more than 50 million of revenue for forward year as more established.

Grant Miller:

The split on those established versus non-established is almost exactly the same, SPAC or IPO. The difference is the industries. So basically most of the non-established companies in the traditional IPO market go the way biotechs go, to traditional. All of the really innovative companies that are more industrial-based, which you’ve seen a lot of, go to the SPAC market. And so I see that continuing for the reasons of capital formation, that as companies have grown up privately, there’s a great ecosystem in life sciences that can continue to IPO that hasn’t been there for a lot of these disruptive industrial industrial tech companies.

Grant Miller:

And that’s why I think some of the rationale for why companies are choosing one path versus the other. But I think those trends I think are very well established and I don’t see them necessarily changing.

David Erickson:

Larry?

Larry Wieseneck:

Yeah. I think, totally agree with Grant. The one thing that I would just say, being totally practical, is that all else constant, I still believe that from a standpoint of panache standpoint of branding, the standard IPO process is probably still the number one path that people use.

David Erickson:

Right.

Larry Wieseneck:

I think that SPACs have become 1A if you want to think of it that way, because more and more very, very strong companies with great brands have been choosing the SPAC path, but it’s still a situation where when people start thinking about SPACs, it’s usually one of these, “Hm, hadn’t really thought about that, know it’s gotten more attractive, but,” it’s always a “but.” So people have to think through the pros and cons. And then direct listings, other than for those that are really driven by their owners, and oftentimes the venture capitalists who feel that they, again, for the right type of situations, the company can go public, direct listing to the distant. I don’t even think they’re number two. It’s like, if you could distance it, you’ve got 1 1A and four or five, it’s way down.

David Erickson:

Right.

Larry Wieseneck:

So that’s just where we’ve gotten to at the moment. I do want to make a point though, about the distinctions in one way that we haven’t talked about yet, which is, Grant talked about having your shareholder base and selecting your shareholder base. I want to point out that most companies, so another way of describing it is, in different words, most companies have stories that for the introduction need to be sold, meaning that not everyone comes to market where the whole world knows who they are. And particularly if it’s a business-to-business story, as opposed to a retail story. So I guess I’d say is, it’s not just the brand, it’s that your brand is known in retail because direct listings tend to really more often than not get taken over by the retail bid very quickly.

Larry Wieseneck:

Whereas, your standard IPO or SPAC has a very good balance between institutional investors and retail. And if one’s looking for the institutional backing, where you know who your shareholders are, you know that they’re there for the long term, that is a real distinguishing for the company and their shareholders, as to selecting direct listing or one of the other alternatives. It really comes down to, do you care about the quality of your shareholder base? If yes, you want to help shape it. If, on the other hand, you think that’s less important, then you go direct listing because you have less control over your shareholder base in the direct listing.

David Erickson:

Right. So, you know, as you guys look to the balance of the year, right, and as you think about your pipelines or your, excuse me, your pipeline, the Cowen pipeline, and what you know about what’s going on in the market, obviously, how do you see that changing? How do you see that changing, if at all, Grant, in terms of the mix that you talked about as you think about the balance?

Grant Miller:

So I think the thing that will change, I think it’s going to be more in the SPAC market than the traditional IPO market, because that is really, as Larry suggested, not changed that dramatically over this period of time. Something else also was just mentioned, the impact of retail investors. So we were at a period of time when deals were getting announced and they were flying, based on retail demand, which you can’t really control, and really hasn’t been a part of the capital markets really for 20 years in terms of a strong impact. That is by a large part gone away.

Grant Miller:

And so now what we’re going to be looking at is these companies that are merging with SPACs having to come back to the reality of where an institution will price it. And we’re seeing that change real time so that the core institutions will find a price that they feel very good going into it in a major way. And so that is going to be, in my view, what’s going to be happening. Now first, as I mentioned, there are 150 announced SPACs that need to close. So we’re seeing 80 of those in the next few months. The whole story of what’s going to happen is how that unfolds. And so it’s very hard to see around the corner when you have these very large number of deals that need to get [crosstalk 00:29:58].

David Erickson:

Right. Before we go, we’ve talked about the traditional IPOs, we’ve talked about SPACs, we’ve talked about the pipe market. We talked about direct listings. I know the convertible market has also been very attractive thus far this year for many companies, even with volatility coming down, at least market wide. What has caused this and how do you think that’s going to continue to evolve over the next few months?

Grant Miller:

So it’s been unbelievable. Last year was a great year. First quarter is, or was best, a record. Returned, I’ll go up, you know, the simple capital markets answer is that convertible investors are making money and there’s more capital in the convertible market than there ever has been.

David Erickson:

Wow.

Grant Miller:

So it is amazing. And so, you know, you see folks actually, there’s one direct listing. They did a direct list and they came back right to the convertible market. Just a few months later.

David Erickson:

Coinbase.

Grant Miller:

Yeah. That’s a really interesting case study. So they didn’t have to go through an SEC registration, they did it once before, and they’re able to actually get a fair amount of primary proceeds at 50 basis points up 55. And they actually enhanced that.

David Erickson:

Yeah, very attractive financing for them. No question.

Grant Miller:

So to think about that as an alternative is incredible. To the extent that I see that slowing? I don’t. The terms are too good for issuers, and convertible investors are making good returns on them. So that’s the sign of a really well-functioning market.

David Erickson:

Larry, I’m going to take you back to your roots. Thoughts on the convertible market?

Larry Wieseneck:

I think what’s interesting about what’s been happening with convertibles is the market is realized, once again, the inherent flexibility that comes from having a security with downside protection for the investor, some upside participation, and thereby it changed the risk return, both for the investor and for the issuer. And when markets get choppier, usually people look for different alternatives. And so I’ll just go to one of the newest developments that to me, I wouldn’t have anticipated, but should have anticipated, is the beginning of the use of convertibles to help actually companies who are doing SPACs meet the minimum cash condition.

David Erickson:

Right.

Larry Wieseneck:

Should have anticipated it. It’s like the conversion of financial engineering in multiple ways. But I think that’s really interesting because what it highlights is that there’s more than one way to skin the cat. And I think that’s what we’re seeing. The only thing that will change us, and again, I don’t see this around the corner, even though some people do, is if interest rates were to significantly rise.

Larry Wieseneck:

There’ll be a little bit of a bump in the road as it relates to the amount of convertible issuance, because clearly as rates go up, it resets what the value, what the structure would look like, et cetera. But I will just say that it would require a significant increase in rates before we see a drop in convertible issuance, because most likely that will be matched with an increase in volatility. And so increased volatility would offset the increase in base rates. So anyway, thank you for bringing that up because I think it’s something for us to watch. And maybe in six months from now, we can get this group back together again and see what happened in that intersection between convertible SPACs and IPOs.

David Erickson:

Right. Right, exactly. Well, I think that’s all the time we have for today. It was great to see you both after all this time. Thanks, Grant, for stopping by.

Grant Miller:

It was a pleasure chatting with you guys. Love talking capital markets with capital markets guys.

Larry Wieseneck:

Well, I’ll just say once again, David, thank you for being our partner in these conversations. It’s really both fun and I think informative. This one, we could have gone on for hours. And so I look forward to, as part of the series, maybe bring Grant back in again, as I said, in a few months to get an update. Maybe we can talk about what happened to his predictions about the IPO market and the SPAC market as we see more of these deals roll off.

Grant Miller:

I wasn’t predicting! (laughing)

Larry Wieseneck:

I know. No, you were highlighting, you weren’t predicting.

Grant Miller:

Right.

Larry Wieseneck:

And so, I look forward to having you back. And I thank everyone for listening and look forward to speaking again soon.

Speaker 3:

Thanks for joining us. Stay tuned for the next episode of Cowen Insights.


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