Direct listings: Some companies, such as Spotify and Slack, have opted for direct listings rather than traditional IPOs

In recent years, we’ve seen some companies choose to go public through direct listings rather than the traditional initial public offering (IPO). This includes high-profile cases such as Spotify and Slack. But what exactly does a direct listing entail, and why would a company choose to go this route?

Traditional IPOs

First, let’s start with traditional IPOs. In a traditional IPO, a company typically hires investment banks to act as underwriters. The underwriters help the company price its shares, market the offering to potential investors, and facilitate the sale of those shares to the public. As a part of the IPO process, the company also files a registration statement with the Securities and Exchange Commission (SEC), which provides detailed information about the company to investors.

One of the main advantages of an IPO is that it allows the company to raise capital by selling shares to a large number of investors. This can help the company fund future growth, repay debt, or make acquisitions. However, there are also several downsides to the IPO process. For one, it can be expensive – not only , the underwriters and lawyers involved can charge high fees, but the company may also have to offer discounts to buyers or issue more shares than it would like in order to generate sufficient demand for the stock. Additionally, companies that go public through an IPO are subject to a so-called lock-up period, during which certain shareholders are prohibited from selling their shares. This can limit liquidity and put downward pressure on the stock price.

Direct listings

In contrast, direct listings involve a company bypassing the traditional underwriting process and simply making its existing shares available for purchase on a stock exchange. There is no new issuance of shares or raising of capital in a direct listing – instead, existing shareholders are able to sell their shares to interested buyers.

So why might a company choose to go public through a direct listing? One reason is cost – without the need to pay underwriters and other fees associated with an IPO, a direct listing can be a cheaper option for companies looking to go public. Additionally, direct listings can offer more control to the company and its existing shareholders. In an IPO, the underwriters typically have a say in setting the share price and allocating shares to investors, which can sometimes result in a lower-than-desired valuation for the company. In a direct listing, on the other hand, the market sets the share price, potentially resulting in a higher valuation for the company.

Another advantage of direct listings is that they provide immediate liquidity to existing shareholders, who are able to sell their shares as soon as trading begins. This can be particularly beneficial for employees or early investors who are looking to cash out some of their holdings. Direct listings also do not have a lock-up period, allowing shareholders to sell their shares as soon as they are listed on the exchange.

However, there are also some potential downsides to direct listings. Without the backing of underwriters, there may be less marketing and promotional activity around the stock, which could result in lower demand and a lower stock price. Additionally, without the price setting mechanism of underwriters, there is a risk that the stock could be mispriced, either too high or too low, leading to volatility in the early days of trading.

Despite these potential drawbacks, direct listings are becoming an increasingly attractive option for companies looking to go public. In addition to Spotify and Slack, other notable companies that have gone public through direct listings include Asana, Palantir, and Roblox.

Overall, the decision to go public via a direct listing versus an IPO ultimately depends on a company’s specific circumstances and goals. For some, the cost savings and greater control may outweigh the potential risks and drawbacks. For others, the assurance of underwriters and greater marketing efforts may be worth the extra expense. Regardless of which route a company chooses, going public can offer significant benefits, including greater access to capital and increased public visibility, and both IPOs and direct listings can be effective ways to achieve these goals.