The IPO window isn’t closed. It’s broken.

This commentary piece originally published on Pensions & Investments.

With public exits more than 70% lower than the record highs of 2021, it’s understandable why everyone from venture capitalists to limited partner investors to entrepreneurs on the brink of generational wealth is turning to a crystal ball. But even before interest rates and valuations started going in a more rational direction after the funding glut of the recent past, the public exit was no longer the promised land it once was.

In fact, the public market is markedly failing to meet the needs of today’s high-growth businesses, creating a growing vacuum that private markets writ large are filling. While so many are focused on the IPO window being closed, we’re missing the more important point that the window is broken! And with the public markets no longer hospitable to their arrival, should small- and midcap companies be aiming for the public exit at all?

Today the positive storylines outside of the Magnificent Seven are few and far between, and M&A is an increasingly difficult regulatory journey. Simply being a public company today is onerous, putting unnecessary strain on small- and midcap companies, in particular. For example, companies must contend with the high cost of compliance, extensive required governance including multiple independent board members, exorbitant directors and officers liability insurance (or D&O insurance) and costly quarterly reporting and filings. A 2022 Cato Institute research brief found that regulatory costs represent more than 4% of a firm’s equity value on average and can exceed 10% of earnings for small-cap companies. Sarbanes-Oxley, Regulation Fair Disclosure (FD) and labyrinthine rules around IPOs and being public also diminish the attractiveness of this path to liquidity.

Add to that the challenge of employee compensation schemes that have a short-term orientation and are devised by costly consultants, all of which impair public companies from focusing their executives and employees on long-term value creation. The result? The number of publicly listed companies traded on U.S. stock exchanges has dropped dramatically — more than 50% — since its peak in 1996 with 8,000; in 2023 there were only 3,700, according to the Center for Research in Security Prices. When taken in the context of the sharp rise in business creation during the last two decades of low interest rates, it is clear this market is not working as it should be, leaving retail investors and smaller institutions that don’t partake in the private markets out in the cold.

Today there stands $1.6 trillion of unrealized value from 2015 to 2019 vintage year startup investment, and this large and growing pool of companies are seeking a private capital partner to support them in the next phase of their growth journeys given the unattractiveness of the public alternative. With only 3% of venture-backed companies profitable at the end of 2023, many companies will need to raise capital in the next 12 months or will go out of business.

Despite a persistent bad rap fueled by an antiquated pop cultural portrayal of robber barons and liquidators, private markets have been critical to helping companies shoulder more risk and drive innovation — and provide much needed capital in a challenging environment. Despite declines across the board in deal volume, private equity in North America still showed up in 2023 and invested $693.5 billion. Globally, $3.9 trillion in dry powder stands ready to transact across all global private capital strategies, according to data from PwC and Preqin.

The same way that Dodd-Frank gave rise to a massive private credit market, the deterioration in the public market option has opened the door for private equity to step in and fill the void. As a result, private equity has also had to mature and evolve its craft, with each stage from venture capital to growth equity to buyout expanding its investment horizons, getting sharper about differentiation and introducing a panoply of value-add services to portfolio companies over the past decade that greatly enhance the outcomes for companies of all sizes and stages.

Today, private governance is winning out because small, agile boards with active investors tied closely with management are fundamentally more effective for higher-growth businesses. Long-term incentives for management and investors are far superior to options and restricted stock units (or RSUs) in a public context, which can be much shorter sighted, favoring near-term wins over sustainable growth that makes our economy stronger and more productive.

Does this mean the end of the public company? No. Private equity depends on the public markets and vice versa — but we’re facing a historic imbalance that stands to negatively impact the American economy.

The American capital markets are a vital competitive advantage for our economy and the envy of the world. We need the entire spectrum prospering to generate liquidity and spur commerce — that means a vibrant public market with lots of IPOs every year. And a growing private market at every stage of private equity, from venture capital to growth equity to buyout, working to realize the full value of the innovations it has driven.

To achieve this will require active collaboration among politicians, regulators, Wall Street bankers and investors. We need to take a hard look in the mirror to acknowledge these challenges and then work together to make measured, growth-positive decisions that encourage innovation and unlock better access to capital to foster a healthy economy that works from Main Street to Wall Street. No crystal balls required.

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Brad Bernstein is a managing partner at FTV Capital. He is based in New York. This content represents the views of the author. It was submitted and edited under Pensions & Investments guidelines but is not a product of P&I’s editorial team.