When Databricks raised US$10bn from a group of investors just before year-end, the news came as a blow to bankers who’d spent years saying that an IPO of the company was imminent. As one of the largest startups in the US – only SpaceX, OpenAI and Stripe are bigger – bankers have been salivating since at least 2020 at the prospect of a public listing of the data analytics company.

The news was particularly galling, coming as it did after the worst year for IPOs since the global financial crisis. Companies globally raised US$113bn by going public last year, a fall of 73% from the record set in 2021 and the lowest since 2009. The Databricks share sale, had it happened on public markets, would have ranked as one of the largest US IPOs on record, breathing vital life into a seemingly dying market.

Instead, the share sale seems to have only confirmed a growing trend of companies turning their backs on public markets as a vital source of capital, and instead opting to sell their shares to an ever-expanding pool of private investors. While it grabbed the headlines, Databricks' deal was no one-off: SpaceX, OpenAI and Stripe privately sold more than US$8bn of shares between them last year – without even having to mention the letters I-P-O.

The shift is turning the financial system on its head. David Solomon, whose bank Goldman Sachs has traditionally made hundreds of millions of dollars a year from arranging IPOs, recently said that the reasons for going public are “getting pushed out”. Other players, such as BlackRock, Franklin Templeton, Legal & General, M&G and Schroders – who built their entire businesses on investing in public markets – are moving into the private space.

“Fundamentally, capital markets are changing,” said Aadeesh Aggarwal, the global head of financial sponsors at Rothschild. “The world we live in today was really created in the capital markets revolution of the late 1980s – and we’ve stuck with it ever since. But we’re now living through another revolution, which is the shift towards privatisation of capital markets.

“When you look the entire capital stack through debt and equity, today there is far more private capital going into every piece of that stack than ever before – and it's only increasing,” he said, adding that the trend would likely prompt a rewiring of the way the financial system works. “It’s impossible to imagine this will not also change how these capital flows are intermediated.”

Ill-suited

That shift is driven by a growing realisation that IPOs are in many ways ill-suited to the companies most in need of capital to expand. Revolutions in connectivity, data, artificial intelligence and biosciences have led to an explosion in the number of scrappy startups with big potential. There were about a dozen unicorns – startups valued at more than US$1bn – in 2011. Today there are over a thousand.

Such businesses are hard to value. Traditionally, ahead of most IPOs, teams of research analysts are invited to pore over the company’s financials and asked to publish recommendations – which are in turn used in marketing shares to potential investors. But many of these companies are so specialised – or operate in such nascent, undeveloped industries – that traditional analysis simply doesn’t work.

“In the UK, public markets simply do not work for growth companies,” said Victor Basta, a founder at boutique Artis Partners, which advises such companies. “There’s a lack of knowledge about these growth areas – the number of analysts in the UK who are conversant with AI is very small. And so, in the analysis, there’s no appreciation for how it’s going to play out – it’s all about the bottom line.”

Shifts in the regulatory landscape – especially MiFID, which forced banks to unbundle research – have made matters worse. That’s been amplified by passive funds, which have taken money away from discretionary asset managers and funnelled investor cash into the same large stocks. The result is a lack of liquidity and dearth of good quality research for smaller, growth-orientated companies.

“In order to have an active capital market, what do you need? You need liquidity,” said Aggarwal. “But what has happened over the past few years is that the liquidity has become very concentrated – it’s gravitated to the US, and into a handful of technology stocks. At the same time, about 30% of all capital out there today is actually sitting in passive funds. There is less liquidity with asset managers who would typically take those buying decisions.”

That has made listings much harder. “The question becomes: how big an IPO market can you actually have?” said one senior banker. “There are a lot of companies out there actively working on doing an IPO this year, but my bigger concern is whether there is going to be enough liquidity in the market to absorb them.”

Stuck assets

The tough backdrop for IPOs has made life particularly difficult for private equity. The industry has ballooned over the past decade and manages more than US$5trn of assets. But it was built on the premise of being able to exit investments easily at the end of the life cycle of each vintage – typically after four to seven years. An IPO was a good way to do that.

But falling IPO volumes – when the private equity industry has been expanding steadily – has created problems. In Europe alone, there are an estimated 100 “stuck” assets that managers would like to exit but can’t. Many are scarred by the performance of companies they began to sell down in 2021, which now trade below the IPO price, making future share sales painful.

“Sentiment was hit pretty hard by the performance of the 2021 vintage,” said Richard Cormack, co-head of EMEA ECM at Goldman Sachs. “A lot of sponsors took assets public back then and subsequently saw those companies trade underwater and, in some cases, they’ve felt somewhat stuck and as a result have been cautious to come back into the market.”

That’s created a backlog. “People just didn't sell – it was too early 2021, and then in 2022 markets started deteriorating. In 2023 there was no market and in 2024 only the good assets were coming to market,” said a senior banker who specialises in private equity. “So what was a three-year vintage is now a six-year vintage. And imagine the idea of doing an IPO and waiting another three years to [fully] exit. It’s a total nightmare.”

The industry is exploring alternatives. Many are setting up “continuation vehicles” that keep hold of assets and might bring a better valuation years down the line. Others are opting to sell shares privately, without going public: late last year, private equity firm Hg brought 20 new investors into Visma, a software developer valued at €19bn. EQT is also exploring private share sales of various companies, including €15bn software developer IFS.

“When a lot of these private equity companies got into these investments, they assumed that they could exit through the IPO market,” said Basta. “And they’re coming to the conclusion that actually it's not a viable way out. And so, the industry is in a bit of a fix. Alternative ways of exiting have always existed, but the magnitude that is now needed is so much greater.”

Challenges

The shift towards private share sales has considerable downside. Without the disclosure, scrutiny and price discovery of the public markets, there is the risk of a delusional club mentality, in which a handful investors get sucked into a false narrative. Swedish battery maker Northvolt was Europe’s best-funded startup after raising US$15bn in capital. But in November it filed for Chapter 11 bankruptcy protection.

Another risk is a public backlash. The expansion of public equity markets in the 1980s, 1990s and 2000s was founded on the idea of democratic capitalism, that ordinary citizens could – indeed should – participate in this engine of growth. By limiting the participation to a handful of already wealthy investors, the trend towards private capital risks eroding the social contract of democratic capitalism.

Even if public markets shrink, they – and the IPOs that access them – will always be necessary, not least because they still represent the deepest pool of liquidity. Almost US$120trn is invested in public equity markets, about five or six times more than most estimates of private capital markets, which includes private equity, venture capital and private debt. Going public still remains the only option for the biggest assets.

“Some assets will get eventually get too large for private markets because there's only a finite amount of investors who can write very large cheques and tolerate limited or no liquidity,” said Cormack. “In the future, some of the companies that come to the IPO market might be more mature, further along their growth path and larger than we may have seen in the past.”

Indeed, Goldman predicts the global IPO market may have already reached its nadir and is forecasting an increase in public listings in Europe.

“There's not really anything fundamentally wrong with the public IPO market but there has been a pricing dislocation between buyers and sellers,” said Cormack. “There's definitely been a healing of sentiment. It takes time for the market to recalibrate and build itself again but I think we're in that rebuilding process.”

Source: IFR IPOs on life support: does private capital represent an existential threat? | IFR