Changed landscape brings the return of the IPO

By Scott Kirsner, Globe Staff, 9/22/2003

In March 2000, two Massachusetts tech companies filed to go public. The Nasdaq Composite index had just hit its all-time high, and Connected Corp. of Framingham and eDocs, located next door in Natick, wanted to cash in. Neither was profitable, and neither was bringing in more than $10 million a year in revenue. But Connected, which helps corporate customers back up data stored on PCs and laptops, had a projected value of nearly $1 billion. Three-year-old eDocs, whose software enables online bill payments, expected to raise almost $70 million from its Nasdaq debut.

Neither IPO ever took place. But Connected and eDocs are among a handful of companies from the frothy IPO market of 1997-2000 that have lived to file another day. (Many others, like IT services firms Zefer and Context Integration, didn't.)

"The party lasted from 1997 to 2000, when equity values outpaced earnings," says Bob Brennan, the CEO who joined Connected just after it filed to go public. "Then you had a three-year hangover from 2000 to 2003 that was symmetrical with the party."

Connected hasn't yet started polishing up its S-1 filing, the document that announces an intention to offer shares to the public, but Brennan and other tech CEOs are carefully watching the trickle of IPOs this fall.

"Changes in the market's mood can derail even the best-laid IPO plans," says Kevin Laracey, the CEO of eDocs.

Going public is again a possibility, though. "A year ago, people were saying they didn't think the IPO market would ever come back," says Marty Mannion, managing director of Summit Partners in Boston, a venture firm that manages more than $5 billion.

They were wrong. Local investment bank Adams, Harkness & Hill held an IPO-focused breakfast panel last week. The title: "The landscape for the next round of public offerings will be different. Are you ready?" And the chief executive of Nasdaq was in town on Wednesday, lunching with venture capitalists and later hoisting a few cocktails with the CEOs of private companies, encouraging them to come to Nasdaq when they were ready for their close-ups.

Companies that get mentioned frequently as potential IPO candidates within the next year or two include: drug developers like Coley Pharmaceuticals and Indenix Pharmaceuticals; healthcare IT providers like NaviMedix and Phase Forward; and software firms like Emptoris, Workscape, and Unica Corp.

But everyone realizes that the criteria for this next wave of IPOs are much different than they were three years ago. Mannion at Summit says that "having the leading or the second position in market share, and a great financial track record" is helpful.

Ben Howe, founder of the boutique investment bank America's Growth Capital, says, "You need to be a company that is profitable, growing steadily at 20 or 30 or 40 percent. You need a solid management team, probably around $40 million in revenue, and a market cap of at least $100 million."

But several of the companies that have filed for IPOs this year aren't yet profitable -- and there are questions about whether the market will again embrace companies with wobbly balance sheets, as it did in the dot-com era. That's one reason most CEOs are willing to wait and see how the next few newly public tech and biotech companies fare.

"We're not in a three-point stance waiting to go public," says Bob Weiler, chief executive of Waltham's Phase Forward. "Everybody's looking at the IPOs coming out over the next month or two, then people will absorb that. I'm optimistic about the economy. I think you'll see a very active first quarter of 2004" for technology IPOs.

Only one CEO I spoke to, John St. Amand at Marlborough-based Telica, seemed eager to be a test case for how the market will respond -- in his case, to an IPO from a telecom equipment maker. "There have been zero data points in the telecom space," St. Amand says. "Telica is going to work really hard to be that first data point, once we feel our business is sustaining growth and profitability."

If the IPO window does open wide, that massive sigh of relief you hear will come from venture capitalists. The only way they've been able to cash out of their investments for the past few years has been selling or merging their companies in return for cash or stock. "Since there wasn't a viable IPO market, we've pursued mergers of companies that might've otherwise been IPO candidates," says Brian Conway, a managing director at TA Associates in Boston. A strong IPO market not only gives venture capitalists (and company founders) another way to cash out, but it can also help set higher prices for companies that do get acquired.

Conway says it's hard for him to imagine a return to the overheated IPO market of the late 1990s.

But Chris Covington, a mergers and acquisitions adviser, says that investors' memories may prove short. "After a while, the vicious cycle begins, and people think that buying IPOs is like found money, and they don't really understand what they're buying," he says. "They overpay, and the quality goes down. But that'll take three to five years. Buy in the near term, then stand back," he advises with a chuckle.

However the IPO market evolves, Brennan and Laracey are hoping they'll get a second chance.

Brennan is considering doing some acquisitions and expanding his sales team to bulk up his company to $50 million in revenue, confidently eyeing an IPO in early 2005. Laracey's fielding more frequent phone calls from investment bankers who are suddenly interested in developing a deeper relationship.

His experience in the boom times seems to have made him wiser. "It's important that you keep expectations low," Laracey says. "If you peg too many of your hopes on the positive outcome of a financing event, you can set yourself up for trouble."

Scott Kirsner is a contributing editor at Fast Company. He can be reached at kirsner@att.net.