As EU venture capital soars, will the region hold onto future IPOs?


Image Credits: Nigel Sussman (opens in a new window)

Shares of American cybersecurity unicorn SentinelOne began to trade yesterday on the New York Stock Exchange. The former startup had raised nearly $700 million before its IPO. And it priced its public debut above a raised price interval. But even its higher-than-anticipated valuation didn’t stop shares of the company from closing around 20% higher.

The SentinelOne IPO is a single data point, but one that fits into a quarters-long trend of high-growth technology companies attracting strong — perhaps exuberant — valuations on American exchanges. The notion that America is a good place to go public is not news; even Chinese tech companies facing what could be called a valuation gap are still pursuing listings in the United States.

But not every technology startup grows up planning, or even dreaming of an American IPO. Many European companies will wind up listing on their native exchanges.

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In the wake of the busy 2021 IPO cycle, The Exchange wanted to better understand why some tech companies choose to list in Europe over the United States.

The question is pertinent thanks to rising venture capital activity on the continent. The first quarter of 2021 saw record investment in the region, to the tune of $21.4 billion, according to Crunchbase News. Early data looking at European venture capital activity in the first half of 2021 is looking similarly bullish. More VC activity likely implies more breakout startups, which in turn should lead to more startup exits, some of which will be public offerings.

And IPOs in Europe are picking up. Leaving Brexit in the bin and considering the U.K. a part of the larger European market for the sake of conversation, it’s worth noting that London-based listings are having a strong start to the year as well in terms of capital raised and number of listings seen. Not all debuts have gone smoothly, it should be said; Deliveroo famously struggled when it first listed in the United Kingdom earlier this year. Other listings, like that of cybersecurity company Darktrace, went more smoothly.

Returning to our question, why are some tech companies listing in Europe over the United States? And what’s ahead for IPOs in the EU; will we see more decisions like Wise’s own to list in its home region?

The Exchange got a hold of EY’s Franck Sebag, Osborne Clarke Spain partner David Miranda and Dealroom’s Yoram Wijngaarde to better understand the current IPO market as it relates to European public offerings. The future location of a huge number of potential listings is in the balance; will Europe be able to hold onto its own breakout corporate stars?

Where Europe has an edge

There’s one aspect where European stock exchanges have an edge: listings for companies with “smaller” market caps. “An EU startup listing in the U.S. is expected to reach at least a $1 billion valuation to gain investors’ interest. For valuations lower than $1 billion, a European market may be a better fit,” Miranda told TechCrunch.

This is also true of the U.K., as per Tech Nation’s 2021 report: “The London Stock Exchange is home to a diverse mix of firms of all sizes. The U.K. ranks third in the world for its number of unicorns but billion-dollar valuations have never been necessary to execute a successful IPO in London. London is open to tech firms of all sizes, subsectors and nationalities, as evidenced by the breadth of the IPOs in 2020,” the public-private organization wrote.

Despite this openness to all nationalities, “It is very rare to see a European startup that’s not based in the U.K. list in the U.K.,” Sebag noted. This is tied to an important factor for IPO success, which is investors’ familiarity with the company. “Companies that do most of their business in Europe are more likely to choose a European stock exchange, where investors will be more familiar with the particular product or service,” Miranda said.

In this context, Believe’s recent decision to list on Euronext Paris seems logical, despite its rocky debut. After all, the digital music company isn’t exactly a household name even in its home country, despite its ambitions to become “the Publicis of music” and 2020 sales of 441 million euros (approximately $523 million) — so it seems unclear whether it would have fared better on a U.S. stock exchange. This also explains why French cloud heavyweight OVHcloud recommitted to IPO in Paris, where it seems to benefit from the debate around data sovereignty.

These are the most promising French startups according to the French government

The LSE and pan-European Euronext aside, European tech startups also have the option to list on junior stock exchanges. “The main three alternative markets in Europe are AIM, Euronext Growth and [Spain’s] BME Growth,” Miranda said, adding that “while AIM is still the most successful example, having pioneered European alternative markets since 1995, Euronext Growth ([created in] 2005) is slowly catching up and will probably get more traction after Brexit.”

“For small and midcap firms (as it is the case in Europe), European alternative markets provide a good opportunity to test investors’ appetite and ready the company for a lower level of public scrutiny before jumping to the main market,” Miranda argued. The size element is an important factor that wards off European startups from becoming public companies in the U.S.: Taking into account their smaller size, [compliance] costs tend to be disproportionate for European tech companies.”

Compliance burdens aren’t as high in Europe, but that doesn’t mean that the market doesn’t care about governance signals, as the Deliveroo IPO debut arguably demonstrated. As The Exchange noted at the time, dual-class shares and treatment of workers were among the concerns that impacted the operation. This seems to indicate that the European and British markets are more concerned about corporate ethics. This results from a mindset that can also benefit companies in the long run, Miranda said: “European investors tend to have a longer-term investment mentality, which provides more price stability.”

The American market

Despite the above-noted advantages to listing in Europe, Miranda is not incredibly bullish on EU listings. Not because European markets aren’t attractive for one reason or another, but because other shores could prove even more enticing.

The United States’ public markets are favorable locations for public listings. Miranda was clear about the reasons why: “Nine out of 10 times, a company seeking to list follows the money and U.S. markets provide higher valuations, lower cost of capital, more liquidity and investors with the deepest pockets.”

In the same vein, Sebag said that “average amounts raised in [European IPOs] are two times lower than in the U.S.” with similar dilution, meaning that the “the difference in valuation is quite significant” between the two regions.

Wijngaarde added to the list of reasons why an American IPO could be considered. “It could come down to the influence in the boardroom and on the cap table,” he wrote; “if a large proportion of a startup’s investors are U.S.-based, there may be more of a draw to list in New York.”

The United States’ markets can offer more money at a similar level of dilution, and a more active trading environment. It’s a pretty good bill of sale.

Barring changes to current dynamics, it seems that American markets will retain some cachet for European startups with hopes of becoming public companies. Where else can a software company with just $37.4 million in first-quarter revenue command a valuation north of $10 billion like SentinelOne just managed?

But that doesn’t mean that there’s only small hope for more EU tech listings.

The future could depend on exit timings

There are reasons to wonder whether European startups will want to become public companies — at least as early as some of their U.S. counterparts. Why would they, when private equity and growth equity are plentiful? According to Sebag, extensive private financing makes alternative IPO markets less of a necessity for fast-growing startups: “Just look at how Contentsquare, Revolut or N26 raised hundreds of millions outside of stock exchanges,” he said.

N26 raises another $100M in Series D extension

Nevertheless, the growing number of VC-backed European unicorns is likely to lead to many future IPOs. Where they will list depends at least in part on when they choose to do so, something that the amount of private capital will influence. Given the billion-dollar threshold for perhaps pursuing an American IPO, companies that’d rather wait before going public seem more likely to list in the U.S. If they prefer to IPO early on, the EU’s and U.K.’s stock markets could well be their first choice.

This is where things become really interesting: Will a vibrant but perhaps different exit market unfold in Europe? Wise’s decision to opt for a direct listing on the LSE already indicates that we may well be in for surprises. It is too soon to tell how much the AIM and its counterparts will be part of the picture, but we will be following this for sure. In the meantime, we’ll do a deeper dive into a trend that seems to connect both sides of the Atlantic: SPACs — stay tuned!

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