Swedish music streaming supplier Spotify did a DPO in April 2018. Collaboration hub Slack filed for a DPO with the U.S. Securities and Exchange Commission late last month. Airbnb, the online market for property rentals, is reportedly considering an immediate listing later this year.
Why a DPO?
Immediate listings work best for private businesses that have been around for a while, earn substantial revenue, have capital reserves, and don’t have to raise funds from a public offering.
Until about six decades back, start-ups might increase a seed round of funding and two to three rounds of venture capital. They generally either went public through an IPO or were obtained within five to six decades.
Now, because financing sources are much less concentrated on getting their money back quickly, start-ups can often obtain up to six rounds of venture capital or private equity over a much longer period and so have little desire to go to the public sector. Thus they remain private. But, that means early investors and workers who were granted stock options don’t have any way to sell their stocks. A company that doesn’t wish to raise funds on the public market but wants to offer liquidity to existing shareholders is a fantastic candidate for the DPO substitute.
IPO vs. DPO
If a business wants to go public to raise capital, it requires an IPO. An IPO is more secure than a DPO since the underwriters control the opening share price. Allocations of shares are offered — largely to institutional investors — at a set price in the organization’s prospectus. This cuts out the small investor from the initial sales process.
Conversely, a DPO is more volatile because there isn’t any set price. Having a DPO, the opening stock price is subject to market demand and is exposed to big market swings.
If a business wants to go public to raise capital, it requires an IPO.
An IPO requires underwriters, typically several investment banks that take a hefty commission for their services, typically from 3 to 7% of the profits based on the amount raised. An IPO requires an intensive roadshow, normally two to four weeks, before the offering to permit the company to promote itself to potential investors. The roadshow can also help refine the original price range as the underwriters get feedback from prospective investors. A DPO doesn’t call for a road show.
In an IPO, present shareholders — workers and pre-IPO investors — are typically subject to a 180-day lockup period that prevents them from selling their stocks daily the company goes public. This may place them at a financial disadvantage if the stock price drops after the initial hype.
In a direct offering, the firm can’t sell new inventory, and there is no lockup period. Instead, only existing shareholders sell their shares to the general public.
A DPO is a much cheaper method of going public since there’s absolutely no underwriter. A DPO can be more democratic since the procedure is entirely market-driven. All present investors can sell their shares, and any investor can purchase the shares. The ability to sell shares on the first day of trading in market trading prices instead of in the initial controlled price available to them in a conventional IPO can pose a financial benefit to the shareholders. In a DPO any prospective buyer could place an order with any agent at a price the potential buyer wants and that order becomes part of their price-setting procedure on the stock market.
Democratic, or Not
DPOs solve a problem for cash-rich start-ups that wish to allow their employees and early investors money out but don’t wish to increase any new funds. DPOs aren’t a good alternative for start-ups which are unprofitable and demand more funds .
While the DPO sales process is much more democratic than a conventional IPO — allowing smaller investors to purchase stocks at the beginning — the voting rights, often, are not. The two Spotify and Slack have dual-class inventory, allowing the founders to keep control of the businesses. I have addressed this in”Does Dual Class Stock Hurt Independent Investors?”