unconventional IPOs

Going public in the US the conventional way, through a major brokerage house, isn’t cheap. The fees for underwriting and distribution will easily amount to 5% of the offering, and may end up significantly north of there. Perhaps more galling to the company going public, the stock often opens–and stays–20% or more above the offering price set by the underwriter. This gives the impression–which is also the correct reading, in my opinion–that the broker’s main allegiance is to IPO buyer. What the company also sees is an enormous amount of money left on the table.

The company that chooses this route does get something in return: the IPO roadshow, which introduces it to the investment community and the promise that an analyst from the brokerage house will cover the company, issuing periodic reports keeping institutional holders informed about the company’s progress. This isn’t nothing.

Still, these inform-the-buyer benefits are hard to value. It’s also not clear that traditional brokers have the clout they might have had before the 2008-09 financial crisis. And no one likes their offering being the vehicle for brokers to reward their highest-paying institutional customers. So it isn’t surprising that firms in increasing numbers are exploring cheaper, non-standard ways of going public.

The poster child for why this is a mistake is Google, which decided it would go public through a Dutch auction (don’t ask). The offering was a dud and the stock languished for months around the IPO price. The main reason, I think, is that Wall Street didn’t understand what Google was or why it was important. I certainly didn’t at that time. The firm I was working for did, however, and scooped up large amounts of what turned out to be extraordinarily cheap stock.

Did the big brokers deliberately not cover Google in its early days? That would be my guess, but that’s pure speculation. And going the unconventional route doesn’t seem to have hurt the company in the long run.

In today’s market, there are two unconventional ways for companies to go public: direct listings and SPACs.

The SPAC structure very, extremely, highly, tremendously tilts the odds of making money toward the organizers of the SPAC and away from you and me.

This leaves direct listings, where a company files a prospectus with the SEC and, on approval, begins to offer stock on an exchange directly to investors. No underwriting or sales syndicates, no stock price stabilization period, no follow-on outpouring of (favorable) brokerage research. Just trading.

There’s a little bit–and maybe more than a little–of Google in the process. I think this is because direct listing companies don’t know how to communicate with potential institutional buyers of their stock and don’t know how much they can say about how business is doing.

That’s the interesting part to me, because it suggests that institutional investors don’t have a built-in head start over you and me. If we do a little homework maybe the opposite is the case.

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