Roblox chooses direct listing over IPO Madness

Roblox Corporation, a video game company with an in-game buying model, was supposed to close its initial public offering (IPO) in December of last year. The company delayed its IPO after seeing Airbnb, Inc. (ABNB) and DoorDash, Inc. (DASH) release incredible day one pops that challenged technology IPO valuation models. Instead, the company announced that it will go public via direct listing. We’ll see what a direct listing is and why Roblox’s move is a sign of trouble for the traditional IPO market.

Key points to remember

  • Roblox decided to go for a direct listing rather than its planned IPO due to the apparent pricing issues in the market.
  • The company’s decision highlights some issues with the IPO process, including the difficulty of reaching the right price.
  • Roblox has instead completed another round of private equity raises, which means retail investors are again missing out on most of a tech firm’s initial growth.

How direct ads work

There was a clear line between direct listings and IPOs. Direct listings were made primarily for liquidity reasons, as new capital was not raised as only existing shares were auctioned on the market. Spotify Technology SA (SPOT) and Slack Technologies, Inc. (WORK) are two notable technology companies that have gone public through direct registrations as part of the traditional process. At the end of December 2020, however, the Securities and Exchange Commission (SEC) changed the rules for direct listings to allow companies to raise funds through direct listings by auctioning new shares together with those of current shareholders seeking to sell. .

With the recent rule change, direct ads are even more attractive than before. Before the rule change, direct listings still saved companies money paid to underwriters on an IPO, but they couldn’t raise new funds. With the rule change, companies can submit to direct listing, raise capital while saving money. The direct listing process also does not involve any blocking for existing shareholders as required by an IPO.

IPO problems

The rule change regarding direct listings – the one advocated by the New York Stock Exchange (NYSE)– is linked to more important issues related to the IPO market. The idea behind an IPO is that a company pays a fee for expert help and support in pricing its stocks so that the market buys them all at the right price. The most significant direct cost is the fees paid in connection with an IPO, and PWC estimates that the average subscription fee is 3.5% to 7% of the gross proceeds of the IPO. As a rule of thumb, the larger the trade, the lower the percentage fee – although the dollar amount is of course much larger when we are talking about IPOs over $ 1 billion.??

While the costs are significant, the fees would not be an issue if companies felt they were getting the full value on the price side. Unfortunately, massive IPOs from companies like Airbnb suggest that these companies are leaving money on the table when they go public. There’s a great argument that we’re in a bit of an IPO bubble, but that doesn’t excuse the trader that companies are paying tens of millions of dollars, leaving billions of dollars in capital on the market. table.??

Why Roblox chose the direct listing

We don’t have to spend a lot of time guessing why Roblox strayed from its IPO. The Wall Street Journal reported that it was the trade action on Airbnb and DoorDash that held up company executives rather than leaving capital on the table. After postponing the planned IPO, Roblox raised more than half a billion in a Series H funding round. The latest funding round values ​​the company at $ 29.5 billion, a leap considerable compared to the $ 4 billion in its previous funding round.??

This probably means that Roblox is less concerned with raising more capital as part of a planned direct listing. Instead, direct listing simply gives existing investors a planned liquidity event to cash in if they choose. Roblox will always have the ability to raise more capital when the time comes, of course, and direct listing is planned, not imminent. Roblox can still change these plans like it did with the IPO.

Conclusion: IPOs must change

The direct listing is of course only an alternative to the problems of an IPO. For years, we’ve also seen companies choose to stay private and do more private financing rounds, only going through an IPO at a much later stage. This is what Roblox has done with the Series H round, although it has said direct listing is in the planning stages, giving all current investors a commitment to eventual market liquidity.

The fact that companies are going so far beyond funding Series A, B and C is a sign that something is wrong. While this trend is understandable from a business perspective, it also means that retail investors are missing out on much of the growth of these businesses. When late stage companies go public, retail investors primarily help early stage sophisticated and institutional investors capture a large portion of the gains. Obviously, the IPO process needs to change, or we will see a lot more direct listings and / or delayed IPOs in the future.

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