The term venture capital-backed IPO refers to the initial public offering of a company that was previously financed by private investors. These offerings are strategic plans by venture capitalists to recover their investments in the company. Investors typically wait for an optimal time to issue this type of initial public offering in order to maximize their return on investment (ROI).
Key Takeaways
- A venture capital-backed IPO is the initial public offering of a company previously financed by private investors.
- Venture capitalists use VC-backed IPOs to recover their investments in a company.
- Investors aim for the most favorable time to conduct an IPO to maximize ROI.
- Low investor confidence during difficult economic periods can limit the frequency of VC-backed IPOs on the market.
Understanding Venture Capital-Backed IPOs
Venture capital is a type of private equity. This kind of financing is provided by investors and firms to companies with high growth potential or those that demonstrate significant growth. Venture capital firms or funds invest in early-stage companies in exchange for an equity stake, taking on associated risks in hopes that some of the startups they support will succeed.
The typical venture capital investment occurs after an initial round of seed funding. The first round of institutional venture capital aimed at growth is called the Series A round. Venture capitalists provide this seed capital to potentially maximize their return through an exit strategy, such as a venture capital-backed IPO. Because they offer new companies a significant portion of their initial financing, they have certain rights and responsibilities, including how and when a company goes public.
Venture capitalists wait for the most opportune time to conduct an IPO. This ensures they can exit their position in a company while making the highest possible return. The alternative to an IPO for a venture capital-backed company is acquisition—being purchased by another company. The acquisition of a venture capital-backed company is known as a trade sale. Both options are exit strategies that allow venture capitalists and entrepreneurs to realize monetary gains from their investments.
Multiple sources regularly report on both venture-capital-backed IPOs and the volume of mergers and acquisitions (M&A). During tough economic times, there are generally fewer venture-capital-backed IPOs due to low investor confidence. For example, as a result of the financial crisis, 2008 and 2009 experienced record-low numbers of venture-capital-backed IPOs.
Special Considerations
Venture capital, much like angel investing and crowdfunding options, is an attractive funding source for new companies. This is especially true for entities with limited operating histories that are too small to raise capital in public markets. Companies in this category may not be in a position to secure bank loans or complete debt offerings.
Attracting venture capital is different from raising debt or a loan. While lenders have a legal right to interest on a loan and repayment of the capital, regardless of a business’s success or failure, venture capitalists seek an equity stake without such legal guarantees. Venture capital investments are speculative by nature. The return on a venture capitalist’s investment depends entirely on the business’s growth and profitability. This means that venture capitalists take on the risk of loss for the expectation of a return on their investment.
Example of Venture Capital-Backed IPO
A notable example of a venture capital-backed IPO is Uber. The ridesharing company was founded in 2009, raising nearly $20 billion from venture capitalists, including Morgan Stanley, SoftBank, and G Squared. The company’s final round of financing took place in 2018 when it raised $500 million. Uber went public in a venture capital-backed IPO in May 2019, with shares priced at $45 each, allowing the company to raise roughly $8 billion.
References
- U.S. Securities and Exchange Commission. “Form S-1 Uber Technologies, Inc”.
