Still Awful: An Update on the Small-Cap IPO Cycle

By Jason Paltrowitz , Executive Vice President of Corporate Services at OTC Markets Group

Entering 2024, headlines touted renewed energy in the IPO market.? While some recent bright spots from the likes of Arm, Reddit and Birkenstock have been reported in the press, less attention has been given to the significant number of small-cap IPOs.

Last year, in a piece titled “Lawful but Awful” I wrote about concerning trends in the small/micro-cap IPO market.? The analysis looked at how these companies performed in 2022 and reviewed some key themes and commonalities.? As we are halfway into 2024, I decided to look at more recent data to see if the metrics have improved or if these distressing trends continued.? Additionally, I reviewed the list of 99 sub-$500 million IPOs from 2023 and an additional 22 deals from the first quarter of 2024.? What I found is even more worrisome. The 2022 data was not a blip or simply a function of the market – rather, the exchange IPO landscape for small and micro-cap companies has not improved, and in some ways has gotten worse.? Most of the small and micro-cap IPOs are still awful. ?The players influencing these decisions remain the same, and the outcomes are just as problematic for the investors, companies and eco-system that supports them.

Here is a summary of the key findings:

2023 IPOs:

99 transactions took place on the NYSE and Nasdaq for companies with a sub $500 million market cap

• 82% of those IPOs demonstrated a negative rate of return from their offer price, with the overall average total return of -41%.
• 22% of these companies are already on a non-compliance list.
• 42% completed reverse splits either prior to their IPO or post their IPO.

Q1 2024 IPOs:

22 transactions took place on the NYSE and Nasdaq for companies with a sub $500 million market cap.

• 91% of IPOs demonstrated a negative rate of return from their offer price, with an overall average total return of -24.7%.
• 41% completed reverse splits prior to their IPO.

Roughly 60% of deals were done by the same 10 investment banks. This is the same cohort of banks that we previously found were encouraging companies to do a reverse split to meet the listing qualifications and taking warrants as part of their deal structure. ?This advice is destructive to these companies and dilutive to their shareholders.

Additionally, I looked at the slate of 213 companies that were removed from the U.S. exchanges in 2023. I wanted to see if, over time, the same characteristics applied to delistings.? Most companies were removed for no longer complying with the ongoing standards for their respective exchanges, with many failing to meet the $1.00 minimum bid price.? It is important to note that many of the delisted companies in 2023 were small and micro-cap companies that had completed IPOs less than 5 years prior.

Many of these securities would be considered penny stocks were it not for the exemption granted to companies listed on an exchange. This fact should be concerning to regulators and investors who believe an exchange listing is some sort of quality stamp on the investibility of a company.?

Of the stocks that were delisted from the exchanges in 2023:

• 37% of the delisted companies were on an exchange for less than 3 years.
• 57% are no longer publicly quoted. ?An additional 27% fell to the Pink Market. ?
• 33% of these companies have filed for bankruptcy.

The number of companies coming off the exchanges that are bankrupt or no longer quoted should send off alarm bells.? Both measures speak to the idea that most of these companies either never belonged on an exchange or should have looked for alternatives sooner.? The management time and shareholder money spent in trying to maintain an exchange listing is detrimental to shareholder value and their investors are left holding the bag.

The increase in the number of these deals, the ability of issuers to remain on exchanges for extended periods of time, and the fees paid to bankers and advisors are beginning to catch the eye of regulators and investors.? It is clear that the market is being hurt by these trends and more needs to be done.

To begin, the exchanges should review their listing rules – both initial and ongoing.? “Penny stocks” should not be allowed to remain listed on an exchange for multiple years as they do continued splits and conduct dilutive financings.? Additionally, bank regulators should look at the predatory nature of the firms involved in many of these transactions.? Who are the participating investors?? Are they long-term holders or merely unregistered stock flippers?

For our part, OTC Markets Group continues to offer issuers the ability to go public (and remain public) in a way that’s much more in line with the size and financial position of the company.? Right sized rules for being public along with streamlined ongoing standards allows the C-suite to focus on their business not their listing.? Additionally, to help protect investors and alert compliance teams to the risks associated with some small cap companies, we have added exchange non-compliance notifications into our Small Cap Listed Data file and our Canari Compliance website and application.? These products will flag compliance deficiencies and track deficiency types and effective dates, allowing investors to perform a more in-depth analysis into small and micro-cap issuers listed on U.S. exchanges.