Capital Markets

Valuations of 2020, 2021 Software IPOs Sink

Software companies from the 2020 and 2021 IPO classes had historically rich multiples. They've now fallen back to earth.
Valuations of 2020, 2021 Software IPOs Sink
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Finance chiefs of privately held software companies that envision a future initial public offering may have a long wait. On the other hand, potential buyers of public software companies may want to kick the tires on targets with shrinking valuations.

Stock market investors have been unkind to the U.S. software issuers that were darlings of the equity markets when they debuted in 2020 and 2021. 

Shares of those publicly held software companies were down an average of 40% in the aftermarket as of August 4, according to Renaissance Capital, provider of an IPO ETF.

The average trailing enterprise value-to-sales multiple of the 55 U.S. software IPOs from 2021 is down to 7.7x on average, a third of what it was at listing. For the 2020 cohort of software IPOs, sales multiples have halved to 9.0x. On average, these companies are also not profitable.

“Very little of the multiple contractions can be attributed to slowing [revenue] growth,” according to Renaissance Capital, with companies from the more recent cohorts continuing to show 30%-plus sales growth.

The software companies that IPO’d in 2017, 2018, and 2019 weren’t as richly valued. Their shares have been down nearly as much in 2022. But their aftermarket returns since IPO on average were 278%, 45%, and 81%, respectively, as of August 4.

Those companies, of course, caught the stock market at the right time. When a company goes public close to the peak of asset valuations, on the other hand, returns suffer.

The 2020 and 2021 classes on average were actually nearer to profitability, measured by adjusted EBITDA margin, when they IPO’ed than they were in early August. “There was an overall improvement in profitability at IPO over time, with the 2020 and 2021 cohorts nearing breakeven, on average, for the last twelve months prior to IPO,” according to the Renaissance Capital report.

As of early August, though, adjusted EBITDA margins for the two groups were further into the red than when they listed. (See chart, Margins Deteriorate for 2020, 2021 IPO Classes.)

In contrast, the IPO classes of 2017, 2018, and 2019, which went public with greater negative current earnings, now have positive adjusted EBITDA margins.

The data likely indicates the 2020 and 2021 classes are finding revenue growth more expensive to come by, said Renaissance Capital.

Not every company in the 2020 and 2021 classes is performing abysmally. But with the equity markets still highly volatile and susceptible to more bad economic news, software IPO activity is likely to remain muted in 2022.

The Renaissance Capital data includes IPOs and direct listings with a market cap of at least $50 million, but it excludes closed-end funds and special-purpose acquisition vehicles.

Due to investors and regulators souring on the SPAC model, tech companies lacking confidence in the traditional route to the public markets can’t rely on SPACs anymore. The De-SPAC Index, which measures the performance of companies that went public via a blank-check company, was down 62% this year as of June, according to Bloomberg.

In the second quarter, the overall U.S. IPO market saw just 21 new listings that raised $2.1 billion — the weakest quarter since 2009. And the SPAC market “continued to collapse with just 15 blank-check IPOs and 20 merger completions,” said Renaissance Capital.

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