The IPO Blues

Fashion hopefuls looking to the New Year as a chance to cash in with an IPO are going to have to get their books buttoned up tight.

The market is as fickle as ever, retail is still viewed skeptically by investors and even with a strong economy, there is always a lingering fear that an offering could crash and burn.

WeWork’s parent company We Co. provided the most recent example of an initial public offering gone wrong, with the vast majority of its $47 billion valuation evaporating as chief executive officer and cofounder Adam Neumann was ousted after market observers, at times gleefully, poked holes in the once high-flying firm’s official filings, questioning the core of its business model.

Wework on Sunset, Los Angeles.

WeWork on Sunset Boulevard in Los Angeles.  Veronica Garbutt/REX/Shutterstoc

Elsewhere, Los Angeles-based entertainment group Endeavor postponed its plans to go public this fall, with media reports pointing to concerns the company would not get its hoped-for valuation.

And then there are the ones that were celebrated as stock market darlings at the time of their respective floats, only to disappoint in the months since as they discover the fickle nature of the market, which tends to favor surefire growth stories above all else. Take Farfetch, which became a fashion platform darling in its offering last year only to see its valuation cut dramatically after the company’s expected growth waned and it bought Off-White licensee New Guards Group, muddying its business model. The company’s market capitalization fell from nearly $5.5 billion just before that deal to about $2.9 billion.

In the broader economy, there are plenty of other companies that took the plunge this year only to fail to hold onto their lofty pre-IPO valuations. Uber, for instance, was valued at $76 billion on the private market and is now trading at around $51 billion.

But despite all the headaches — the knee-jerk reactions of investors, the quarterly reports, the regulatory red tape — selling a stake on the open market is one of the best ways to raise millions for a company’s expansion (and for early investors and/or founders).

And there are plenty looking to get a piece of the action.

Footwear and accessories brand Cole Haan said during the summer that it planned to go public, although it has yet to file the necessary paperwork; J. Crew Group is still working on a Madewell offering and, while Rent the Runway has remained silent on the subject, that hasn’t stopped speculation that the fashion rental leader could follow suit. Neiman Marcus Group’s Mytheresa business is also a spin off and considered an IPO contender (as is Old Navy, which its parent Gap Inc. still plans to spin off at some stage).

npr rent the runway jennifer hyman

Rent the Runway’s Jennifer Hyman.  Larry Zhou

If they do take the plunge, these companies may want to rethink the long-held IPO play, which over the last few years has been to pretend they aren’t retailers or fashion firms, but tech companies with a mind-set more of Silicon Valley than Seventh Avenue. That isn’t flying now.

Fred Wilson, a venture capitalist at Union Square Ventures, said there has been a narrative that, with software becoming more prevalent in real estate, music, exercise and transportation, every company should be valued as a software company at 10 times revenues or more. But that narrative is now “falling apart.”

“If the product is software and thus can produce software gross margins (75 percent or greater), then it should be valued as a software company,” Wilson wrote in an analysis. “If the product is something else and cannot produce software gross margins then it needs to be valued like other similar businesses with similar margins, but maybe at some premium to recognize the leverage it can get through software.

“But we have not been doing it that way in the late-stage private markets for the last five years,” he said. “I think we may start now that the public markets are showing us how.”

If valuation expectations continue to reset — as seems to be the case after the WeWork incident as well as tough going for the likes of Uber, Slack and Lyft — it could make life more difficult for companies like fashion and tech hybrid Rent the Runway to stage an IPO and raise money to help fuel its expansion.

And it’s not just stock market volatility that could impact the fashion rental “unicorn” — a distinction given to private companies valued by $1 billion or more. Rent the Runway has also had problems with its business. For a time this fall, the firm halted new subscriptions or new event rental orders from existing subscribers as it made operation upgrades. While the company insisted that it has returned to business as usual, investors will most likely want to see a prolonged period of stability before any IPO.

As for the traditional IPO candidates, like Madewell, they have simplicity on their side and the fallout in the market doesn’t mean a whole lot to them, said Matt Kennedy, a senior IPO market strategist at Renaissance Capital.

“WeWork — I won’t even get into how many problems they had,” Kennedy said. “Madewell has the advantage of being a simple story — it’s got gross margins, a powerful brand, things that WeWork and Endeavor didn’t have. Endeavor was a pretty complicated story to understand — a lot of moving parts. Madewell is a jeans seller.

“I don’t think Madewell is going to get too bogged down with some of the other issues in the IPO market right now,” he added. “I think investors are becoming more conscious about overpaying for growth, but traditional fashion sellers like Madewell are easier to value.”

J. Crew and Madewell’s owners — private equity firms TPG Capital and Leonard Green & Partners — will no doubt be hoping that it can emulate the success of Levi Strauss & Co. In March, the 166-year-old denim brand became the poster child for staging a meteoric return to the stock market, leaving it with a valuation that now approaches $7.5 billion.

This is quite a feat for a company that, after peaking in the Nineties, suffered a sales slump for many years amid competition from the likes of premium denim brands such as Seven For All Mankind and Citizens of Humanity.

And despite all the naysayers and concerns going into 2020 that more retailers will follow Barneys New York and Forever 21 into Chapter 11 bankruptcy, Clara Sieg, a partner at the venture capital firm Revolution, thinks there’s still an appetite for traditional retail in the public markets.

“I think it will remain to be as long as they are companies that are proving that they are growing.…Madewell has done a really good job of being in front of trends, showing strong growth both in retail and online and maintaining a reasonable margin structure,” she said.

Madewell came out of the gate looking for a valuation of nearly $3 billion, but that number, revealed in a document to lenders, was viewed skeptically by financial sources. But the process is moving forward and the company’s true price tag won’t be known until it reaches the market.

Joel Rampoldt, a managing director at consultancy AlixPartners, said the retailer’s valuation will depend more on J. Crew’s restructuring plan (the two companies are in the process of separating) and whether Madewell can open 15 to 20 stores each year and do so profitably, as well as selling full-price merchandise against a backdrop of heavy discounting among retailers.

“I think those three fundamentals are going to drive the valuation much more than certainly the mood around IPOs,” he said.

The Madewell store at 115 Fifth Avenue.Madewell Fifth Avenue, New York

The Madewell store at 115 Fifth Avenue in New York City.  George Chinsee/Penske Media/REX/Shutterstock

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