When I wrote last month about why staying private sucks, I mentioned one key advantage of being public, over being private: public companies find it much, much easier to issue new stock, especially if and when they fall on hard times.
Recently, we’ve had two great examples of how this dynamic plays out in practice. The first was Gigaom, a privately-held media company which abruptly shut down this week in rather mysterious circumstances.
Details are murky, but it seems that Gigaom had run out of the money it raised last year. It had also reportedly borrowed money from lenders including Silicon Valley Bank, which had secured their loans against all the assets of the company.* When Gigaom found itself unable to pay its bills, the whole company was abruptly shut down, more or less overnight. It was a sudden and unexpected end to a storied and significant company. In Silicon Valley, either you raise money at ever-higher valuations, or you’re probably going to die: “down rounds” are very, very tough.
Danny Sullivan says that Gigaom’s ignoble end is “a warning to anyone taking VC”—that venture capital money is only interested in massive returns, and that if you’re not providing those massive returns your shareholders will just leave you dead by the side of the road.
But Sullivan’s alternative—which is to grow more slowly, and try to make money at all times—is not for everybody. There are lots of people out there who want to build fast-growing companies that lose money in the early years; there are lots of people who want to be able to spend time building a great, popular product before they start to monetize it; and there are lots of people who are eager to invest in such companies. Equity capital exists for a reason, and it’s silly to assume that the only alternative to taking VC money is not to raise any equity at all.
One person who knows a lot about public and private stock markets is Barry Silbert, the founder of Second Market. He was essentially oversaw all trading in Facebook stock before the IPO, and now he has a new company, Bitcoin Investment Trust, which is set to become the first place that you can buy bitcoins on the stock market. (Why you’d want to buy bitcoins on the stock market is another question entirely, but let’s leave that to one side for the time being.)
The Bitcoin Invesment Trust isn’t going to be listed on the Nasdaq or the NYSE—instead, it’s going to be listed on something called OTCQX, a “bulletin board” where you can buy and sell shares in companies which are often much smaller and much riskier than the huge corporations in the S&P 500. And while these smaller stock exchanges are not necessarily the place to go if you want to be a multi-billion-dollar company, they still serve an important purpose. Indeed, the latest issue of Bloomberg Businessweek has a fascinating article about how these exchanges can provide desperately-needed liquidity to companies feeling the pinch.
The story, by Zeke Faux, centers on a 27-year-old financier named Josh Sason. His technique is simple: he looks for bulletin-board companies with a lot of volume in their stock, and then offers to lend them money. If and when the company fails to repay the loan, they just pay him back in stock—as much stock as is needed for him to get all of his original investment back, and then some. All that Sason then needs to do is turn around, sell that stock in the market, and book his profit.
This is generally bad for the stock price of the companies in question: Faux found one borrower, Pervasip, which borrowed $75,000 from Sason’s company. And although Pervasip’s share price suffered greatly—it dropped from 3 cents to just nine thousandths of a penny—the company is still operating, and owes Sason nothing.
Or look at Saison’s biggest deal, where he rescued a Greek shipping company called Newlead. Thanks to Sason, Newlead managed to pay off $45 million in debt, avoided having to file for bankruptcy, and even bought new tankers. The share price was demolished, but that’s always a risk in the stock market, and especially in penny stocks.
It’s a no-brainer that the fate of Newlead is much better than the fate of Gigaom—for creditors, for employees, for customers, even for shareholders. (Having shares worth 20 billionths of a penny apiece is still better than having stock worth nothing at all.) But the only way that a company like Newlead can ever survive is if it has some kind of public listing.
The Silicon Valley way, it seems, is to invest in companies, hope they do spectacularly well, and then, if they don’t, simply discard them. Look at Cisco, which bought Flip for $590 million in 2009, and then just closed it, two years later, even though it had $400 million in annual revenue. If Flip had been a public company, it could have raised new equity quite easily—maybe not at a $590 million valuation, but enough to keep on going. Instead, as a private subsidiary, it was simply taken out back and shot.
The moral of this story, then, is that Silicon Valley has precious little patience for companies that aren’t crushing it. (Which in turn explains why everybody there is constantly telling everybody else how great their company is doing.) But most companies aren’t world-beaters, and some of them are struggling, with serious cashflow problems. If those companies were public, they could probably get another lease on life. But if they’re VC-backed, they’re probably out of luck.
*Update: This wording has been changed to reflect the fact that SVB was not the only senior lender, and that it wasn't necessarily SVB's decision to shut down the company.