WHATEVER your view of the recent antics of Elon Musk, one thing seems clear. He rather regrets that Tesla, the electric-car maker of which he is boss, ever became a public company. To recap: in August Mr Musk announced that he had secured the funding to take Tesla private. The gyrating stock price is a distraction to staff, he explained. The obligation to report earnings each quarter fosters short-term fixes that may hurt the firm’s long-term health. And being listed makes Tesla prey to short-sellers.
Tesla’s share price rallied. The shorts lost money. It then emerged that the money to buy out shareholders was not quite as secure as Mr Musk may have suggested. Before long, the board confirmed that the firm would not be taken private. Its shares sank back. The company is now under investigation for possible securities fraud.
Whatever these larger consequences, Mr Musk achieved a minor feat. He has drawn fresh attention to some familiar grumbles about public markets. The number of listed firms in America is in long-term decline (see chart). Mr Musk’s beefs seem specific, but they are part of a general explanation for this trend. The red tape, the endless disclosures, the ceaseless spotlight—all have made the cost of being a public company too high. Yet that is not the real cause. The main reason why startups do not become public firms is that many of them no longer need to.
In part, this reflects changes to the supply side of capital markets. In the 1990s specialist venture-capital firms were almost the only option for startups seeking money to finance their expansion. Nowadays there are large pools of private money that can be tapped. “There is a level of pre-IPO capital that did not exist before,” says Philip Drury, head of capital markets in Europe at Citigroup. Private-equity firms are sitting on piles of cash. Sovereign-wealth funds are willing to tie up capital in new, unlisted ventures. So are hedge funds, family offices and even pension funds.
This shift can be traced back to a piece of deregulation. The National Securities Markets Improvement Act of 1996 made it easier to set up large pools of private investors. A study by Michael Ewens and Joan Farre-Mensa, two academics, finds that the supply of “late-stage” capital (ie, to startups four or more years past their first funding round) accelerated soon after. In the 1990s most young firms seeking $150m or more had to raise it by an initial public offering. Now such sums are raised privately.
The demand side of capital markets has also changed. In the heyday of public markets, the typical listed firm would be capital-intensive—a railway, say, or a large manufacturer or a chain store. Such enterprises needed pots of capital to pay for land, buildings, plant and equipment. Even the very rich could not fund enterprises on this scale. The ventures were either too large or too risky.
These days the value of new firms is in ideas more than fixed assets. New ventures, notably technology firms, need far less capital to start and to grow than they once did. The building blocks for websites or smartphone apps are available free as open-source code. Computing power and digital storage can be leased. And a mini service industry has emerged to help startups refine and market their business ideas. It is also far cheaper to expand a business based on an idea than one that is based on physical capacity. Software can be copied at almost zero cost. That is not true of factories or warehouses.
Startups need less capital and have more options for raising it as they mature. Increasingly they choose private money. That is not only because it is more readily available. It is also because private capital is more suited to ideas-rich firms, say Craig Doidge, Kathleen Kahle, Andrew Karolyi and René Stulz in another recent paper. Listed firms are obliged to make public how they are using their capital. That is fine for a firm with lots of fixed assets. Spending on, say, a new plant may lift the firm’s value. But when an ideas-led firm reveals plans for its spending, it gives away details of its business plan to rivals. It would be better off seeking funds from a select group of private investors.
There is still a place for IPOs. Lots of asset-heavy firms still need pots of capital. More of those firms are found outside America, where the number of listed firms is still rising. But for most technology firms, an IPO is a way for founders to cash in their chips or to create shares to use as a currency for acquiring other firms. Bargaining-power is shifting. Suppliers of capital once had the whip hand. Now it is users of capital. Mr Musk, a finance whizz, looks on with envy.