University of Florida Finance Professor & IPO Expert Jay Ritter joins Yahoo Finance’s Akiko Fujita to discuss the latest IPO outlook as more companies prepare to go public in 2020.
AKIKO FUJITA: Well, we've seen Palantir Technologies planning to go public through a direct listing in what is expected to be one of the biggest IPOs of the year. The software and data-mining company just the latest tech company to file for an IPO over the last few days alone. And we've got somebody who's been watching it very closely. Jay Ritter is a finance professor and IPO expert at the University of Florida.
Jay, there's been a lot made of the tone of this filing from Palantir. We saw CEO Alex Karp saying, our company was founded in Silicon Valley, but we seem to share fewer and fewer of the tech sector's values and commitments. You've had a chance to go through this S-1 filing. What stood out to you?
JAY RITTER: They-- the company is growing rapidly. First half of this year, sales were up 49% over the first half of 2019. More importantly, their losses are shrinking. It's disappointing 16 years after founding that they still are not profitable, but it looks like profitability is not far away. The companies got some unique technology. It's a great company.
As with all companies going public, who are listed, there's an issue about, what's the appropriate valuation? With Palantir, there have been a fair number of private market transactions over the last couple of years-- indeed, average trading. Volume has been about 150,000 shares per day. And this year, the average price per share has been about a little over $5 a share. They've got a little over 1.5 billion shares outstanding.
So currently, it's been trading at about $8 or $9 billion for the valuation, about 10 times revenue. And the median tech stock this year has gone public and had a valuation 10.6 times revenue. So Palantir looks like it's right in that ballpark.
AKIKO FUJITA: Jay, I want to get back to the financials that you just pointed out. It's certainly-- we've become accustomed to tech companies not being profitable when coming to market. But you've pointed out, this is a company that's been around for more than 15 years, not profitable. 2019 loss was more than $0.5 billion. How big of a concern should that be for investors?
JAY RITTER: It's definitely a concern. It would be nice to be profitable now. Their cash flow situation is actually better than profitability, partly because their typical contract has the customer, whether it's government or a private sector company, paying a lot of money upfront. So unlike most businesses, where you've got your costs before the revenue comes in, they've actually got a lot of the cash received before a lot of their expenses are incurred. And also, they give a lot of stock-based compensation. So that's not a cash flow item, but it does result in the stock being constantly diluted with a larger number of shares outstanding.
AKIKO FUJITA: Let's talk about the voting structure. We've got two classes of common stock, but there's also the third class, the Class F common stock that Palantir has said will get founders the ability to control up to 49.999999%-- I think I read all of those nines there-- of total voting power of capital stock. I mean, how do you read into that as Class F stock?
JAY RITTER: Yeah, it's definitely the case that there's a control issue here, that the founders of the company have set things up where they want to keep control as long as possible. However, you know, they've still got their financial interests aligned with public-market shareholders. And indeed, the history of a lot of companies where founders have had superior voting shares is they're still concerned about the value of their shares. And one way to increase the value of their shares is to not mess up, to do what public-market investors want them to do.
AKIKO FUJITA: Jay, we've seen a number of companies, whether it's Spotify or Slack, come to market through direct listings. But one of the criticisms or I guess concerns of direct listings has been the lack of a lockup provision there, essentially the concern being that because there is no lockup period that the shares could be much more volatile in trade. Yet, we've got Palantir here now becoming the first direct listing with a lockup provision. Are they creating a template that maybe other companies could likely follow, essentially looking at a direct listing but adding additional provisions that maybe we wouldn't have seen otherwise?
JAY RITTER: Yeah, I think Palantir has set a precedent that a lot of other companies that will do direct listings are going to follow. The whole rationale for a lockup is that public-market investors are concerned about insiders withholding negative information and dumping their stock before that negative information comes out. With a lockup, the insiders are restricted from selling shares for a while. And therefore, investors are going to be willing to pay a slightly higher price because they've got that extra assurance.
Now, who are the beneficiaries of this? Well, the rank-and-file employees that aren't subject to a lockup will be able to sell at a higher price because the top executives aren't selling. So if I was an employee of the company, I would say, this is really great.
AKIKO FUJITA: And Jay, let's talk about the other companies that we have seen file over the last 24 hours, certainly a pretty big number here-- Sumo Logic, Snowflake, Asana, Unity, a growing list here. What do you make of the timing of these listings? Is this about getting ahead of the election? Some have suggested there is an election risk. Or is it really just about looking at the environment in the market right now and seeing the appetite for these kind of tech companies?
JAY RITTER: I think it's mainly about the appetite for tech companies. You know, every day it seems that NASDAQ is setting a new record driven by enthusiasm for tech stocks. It's partly an expansion of PE ratios, but partly earnings are going up for a lot of tech companies. And so it's-- you know, well, some companies like Tesla, you can question the valuation. It's not merely a bubble with the valuations going up without the fundamentals improving. And Palantir is an example of this, where their revenue is growing a lot faster than cost.
Some of these other companies-- Asana, et cetera-- have great potential. Some of them are younger in their life cycle. But you know, while it's not going to be available to US investors, Ant Financial in China, you know, is $3 billion in profits just a couple of years after founding. You know, another example of how a company-- you know, an Alibaba spin-off. So it's essentially if Amazon went into the finance arm, taking advantage of all of the information they've got about buyers and sellers. You know, Ant has done this, and it's become extremely profitable.
AKIKO FUJITA: And Jay, we haven't even gotten to Airbnb, which is the next big listing we'll be looking to. It's certainly going to be a busy next few months in the markets and for yourself as well. We always like to turn to you on all these issues around the IPOs. Jay Ritter, finance professor at the University of Florida, joining us there.