Initial public offerings (IPOs) have made a comeback with notable debuts from Arm Holdings and Instacart. However, despite this recent activity, the overall IPO market has been relatively quiet for good reason.
According to KPMG, companies that went public have only raised a little over $18 billion this year, down from $23 billion in 2022 and significantly lower than the record-breaking $300 billion in 2021.
While IPO raises have shown slight improvement each quarter since the fourth quarter of 2022, they are still far from reaching their previous peaks. This can be attributed to interest rates and the challenging financing landscape. With the Federal Reserve tightening monetary policy to combat inflation, interest rates remain high.
As a result, companies find it increasingly difficult to raise equity financing due to the elevated costs of debt. Investors are now more cautious and require businesses to demonstrate a strong and sustainable growth model. Without solid fundamentals, there is limited appetite for risk in the market.
Due to these factors, many recent IPOs have seen an initial surge in stock price but eventually settled back closer to their offering prices. Arm Holdings (ticker: ARM) and Instacart (CART) experienced a similar trend, with their market caps currently totaling around $62 billion, down from a combined total of approximately $80 billion at their trading peaks.
In the case of Instacart, which is officially known as Maplebear, the decline in its stock price can be justified by its enterprise value of roughly $7.7 billion, which is just under 11 times the projected 2024 earnings before interest, tax, and noncash expenses. This valuation falls below the average multiple of over 13 times for a group of e-commerce companies like DoorDash (DASH) and Uber Technologies (UBER), as indicated by Gordon Haskett analysts.
Instacart’s Revenue Growth Concerns
Instacart, a prominent player in the online grocery industry, is currently facing challenges that are causing concerns about its revenue growth potential. Although its sales have shown a year-over-year increase of approximately 30% during the first half of this year, projecting a full-year revenue of around $2.95 billion, this growth rate has declined compared to the 39% achieved in 2022.
One of the primary reasons for this deceleration is the slowdown in online grocery adoption. According to Gordon Haskett, only about 12% of total grocery spending has shifted to online platforms recently, translating to approximately $140 billion in annual online sales. This figure is lower than other consumer categories, where more than 20% of spending occurs online.
Another concern lies in Instacart’s market share sustainability within a highly competitive landscape. With players like Amazon.com (AMZN) and Target (TGT) also operating in this space, Instacart’s share of orders valued at $75 and above has decreased from approximately 80% in 2020 to below 75% in recent times.
The market has responded to these concerns by significantly lowering the valuation of Arm. Initially considered too costly, Arm traded at over 20 times forward sales estimates, surpassing the average valuation of semiconductor companies. However, given the lack of substantial growth expectations, with sales declining to less than $3 billion in the last fiscal year due to consumer weakness in smartphone-related products, Arm’s stock experienced a decline as investors reassessed its value.
These examples—Instacart and Arm—underscore a significant point: not all high-growth initial public offerings (IPOs) justify their offer prices. As the cost of capital rises, only businesses with exceptional performance can command exceptionally high valuations. This dynamic explains why there isn’t currently an IPO craze.