This year's IPO class is the least profitable of any year since the tech bubble

This year’s initial public offerings are performing like it’s 1999 — and not in a good way.

Companies going public this year are expected to produce the lowest profits of any year since the Dotcom bubble, according to analysis from Goldman Sachs.

Just 24% of companies going public in 2019 will report positive net income this year — the lowest level since the tech boom and bust two decades ago, Goldman’s chief U.S. equity strategist David Kostin told clients in a note this week. In 1999, a year before the internet bubble burst, 28% of IPOs reported positive net income in the first year as a public company. That fell to 21% for companies going public in 2000.

Profitability has been a key topic this year as a group of high-profile, money-losing private companies enter the public market. Investors are increasingly questioning the business model of growth at any cost, and taking weak demand, for WeWork especially, as a cautionary tale.

Uber went public in May, and reported a $1.8 billion loss ahead of its public debut. It revealed a $5.2 billion in the second quarter. Uber’s ride-hailing rival Lyft, posted a 2018 loss of $900 million ahead of its March IPO. Both stocks are down more than 25% since their IPO date. WeWork would be the second-biggest money-loser in history if and when it goes public.

“In terms of a path to profitability, IPOs since 2010 look more like tech boom IPOs than offerings completed during the 2001-2009 period,” Kostin said.

The wave of below-average profits is not necessarily the fault of the Ubers and Lyfts of the world. Kostin said biotech is dragging the average down, accounting for 28% of IPOs this year. None of those biotech names are projected to be profitable for the next three years, he said.

The IPO total is also reaching a multi-decade high. More than 75 companies have gone public this year in the U.S., raising a total $31 billion. IPO proceeds are on pace for the second-highest level since at least 1995, only trailing the total during the 1999 peak of the original tech boom, when they brought in $58 billion, according to Goldman Sachs.

To be sure, the U.S. stock market trades more than 120% above its level 20 years ago, meaning the equity raised by IPOs in the past year is small on a relative basis. It’s on pace to be 0.1% of the S&P 500’s market cap, vs. 0.6% during the Tech bubble, Kostin said.

He pointed out a few differences between modern IPOs and what happened during the height of the Dotcom bubble. Offerings this year have lower valuations compared with the late 1990’s peak. Still, compared to an average year, investors are assigning a greater valuation premium than usual to IPOs.

On average, the age of companies going public over the past quarter century has stayed roughly the same at eight years — except when it comes to technology companies. The average tech company age in a public debut rose from three years in 2001 to 13 years in 2018.

Sales growth tends to be stronger for companies going public younger, according to Goldman. The average firm founded 0 to 5 years before an IPO reported sales growth of nearly 50% five quarters after an IPO. For firms older than 15 years, that sales growth was 19% on average.

“Younger firms grow sales at a faster rate than their more experienced peers,” he said. “This trend has contributed to the lower expected sales growth for recent IPOs compared with the Tech bubble.”

Still, Kostin said company age when a company held an IPO was not “a significant indicator” of relative performance during the following three years.

While these companies might not be showing profits immediately, Kostin said a debut year isn’t the most important metric. His analysis showed that first year profitability had “no discernible impact” on the likelihood of out-performance during the following two years. It was profitability by the third year that really mattered. Since 2010, IPOs with positive net income by year three, have seen positive excess returns and the “highest likelihood of outperformance.”

“Achieving profitability by year three mattered for outperformance during all three cycles,” Kostin said.