It was interesting following Google's IPO today. One of the things that's so unusual about this offering is that it bucks the normal trend by using a "dutch auction" to specify who gets to purchase the initial shares. This is important, because these initial shares are essentially "free money". There's zero chance that the shares will go down in value when a major company like Google, with all the buzz it's had, goes public. You're basically printing money here. In the past, during the dot-com boom of the 1990s, IT sector IPOs have been plagued by corruption in the system which determined who got to buy those shares. Wall Street firms like Morgan Stanley and Credit Suisse First Boston, which were in fact the two firms who handled Google's IPO today, faced a slew of charges in the 1990s, essentially saying that they were giving certain high-value customers preferential access to these stock offerings, which then guaranteed more business from that customer. The conflict of interest was clear and obvious, and to this day many feel that the Street has yet to adequately address the problem. Largely as a result of that controversy, which was first exposed in an excellent episode of PBS Frontline called "Dot Con" in 2002, Google's founders decided to try the dutch auction approach, which allowed people to bid on what they would pay for that stock. Of course, as you might imagine, there is another reason for companies to try a dutch auction instead of the usual approach. The main one being: It generates more initial revenue for the company. See, companies get paid directly for that first sale of stock, but after that all stock sales go to the current owner. Unless the company offers more stock, they get nothing when it changes hands. But they're still liable for the *value* of that stock -- so much so that if it falls in value, heads roll. It's a bit of a Catch-22. But I remain unconvinced that initial revenue is a primary motivator for dutch auctions. Cash influx of that kind is actually not that useful for a company. It can't give it to its investors, because they've already been paid. It has to pay taxes on it. And it can only use it for development. So really unless you have something specific in mind for that money, it's pretty useless. Perhaps Google does, I don't know. But remember: The private stock owners, the employees of Goggle who got rich today, probably couldn't care less how much cash Google takes in from the offering. Greed is not really an issue in this decision, because greed is fully covered, and the greedy get nothing extra from the auction. What IS a factor in the situation is the reaction of Wall Street to Google's decision to use a dutch aucion. Basically the Street is *PISSED*. They couldn't possibly be hotter about it, in fact. Look around at all the articles on the financial sites, and it really shows. The reason they're so upset is because it circumvents the very thing that has the greatest value to the Street: Increasing stock value. See, if a stock is offered the normal way, it starts out at something like 30-40% of its nominal value, as determined by the IPO company. This is part of the scam. The company therefore gets very little from the IPO, but the value will rise tremendously, until it hits the nominal corporate value. And all of those favored buyers? They get REALLY STINKING RICH. But more importantly -- they get rich by *cheating*. So yeah, Wall Street's pretty upset. I'll stop here even though there's a lot more to the situation, but a discussion might be fun if anyone's interested. Reuters article: (Pretty good summary of the auction today, and general circumstances.) http://www.reuters.com/newsArticle.jhtml?type=businessNews&storyID=6024193 PBS Frontline Episode on IPO Corruption during the Internet bubble: http://www.pbs.org/wgbh/pages/frontline/shows/dotcon/view/ (The entire 53-minute broadcast can be viewed online. Highly recommended.) Description of the Dutch Auction terms at Motley Fool: http://www.fool.com/news/commentary/2004/commentary040526bm.htm
I should probably add that the IPO ended up popping at about $85/share, climbing 18% on the first day of trading. This was a good bit less than Google's predictions, which ranged as high as $135. Also fewer shares ended up being sold. The total cash generated was something like $1.7 billion. There were a lot of really interesting last-minute maneuvers on Wall Street preceeding the IPO, some of which may have been generated by some of those pissed-off investment bankers (Street Urchins? hehe). I can write up some more stuff on that if anyone's interested. One of the more interesting moves was the decision by the large investment groups (the ones who control your 401k plans) not to invest in Google via the dutch auction. Perhaps not too surprisingly, these are the same companies that do IPOs, e.g. Morgan Stanley, etc. These guys play hardball.
I don’t understand what the problem is here. It doesn’t seem to hurt the company that’s having the IPO, since the initial stock price is always going to be the same no matter who buys it, right? Why can’t people sell to whoever they want to?
I'm not an expert on this, but as I understand it the basic problem is one of conflicted interests. Wall Street firms are not supposed to profit on stock speculation, for example, because that would be a conflict of interest, right? If the guy who's handling your IRA is personally profiting from the trades he's asking you to make, then his loyalties may lie elsewhere, when they're supposed to be on your side. But what boomed during the bubble was corporate partnership. These companies now make far more money on corporate deals than they make on individual investors. So what they would do is give those corporations the IPO stocks. It was basically printing money, because they were guaranteed to go up. The reason they were guaranteed to go up is because the *same company* would go on to tell its vast IRA/money market holdings to purchase those *very same stocks*. So you're buying something like the Vanguard Fund or whatever, but in fact someone else is making money off you, money you could be making yourself, and they're doing it by cheating. Just to take a look at a comparison from another industry, consider Arthur Andersen. They got into trouble because they were getting into big corporate partnerships. Those partnerships generated old-fashioned accounting/audit business, sure, but they also generated *far* more lucrative marketing/consulting deals. We're talking ten to one hundred *times* more lucrative. So when one of those companies ran into an accounting problem, instead of adhering to their responsibility to force the company to correct the problem, instead they were motivated to cover it up. So what was an obligation to individual investors in the company they were working for (and that's exactly what it was -- the accounting system was designed that was so as to avoid government oversight!), instead they were looking out for themselves and breaking the law. The Street was doing exactly the same thing. And may still be.
My biggest irk with wall street is primarily the control mutual funds or generally large trusts have on the downfall or success of a company. You have trusts worth millions of dollars and capable of buying controlling stakes in a myriad of companies, but with the overriding goal not being a long term investment but rather making a relatively short term investment that is profitable, so it looks good to the investors of the trusts. Thus, you really have a company trying to make money by dealing roullette with the stock/value of another company. During the tech boom, so many companies many silly decisions in going public: their stock at offering was undervalued, interst overestimated, and thus initial cash at offering, low. Trusts and individuals who get these initially cheap prices merely held on long enough til a misinformed, hype-fed investor and bought a bloody dot-com with no revenue stream at $35 a share. Again, the intent of these institutions were profit from stock manipulation and not long term investments in these doomed companies. It is interesting to note that so many controversies surrounding google's stock came out so late. And I am trying to sound cynical here, I simply do not trust wall street and I have every reason for this mistrust. The fact of the matter is google gained a lot from the publicity in media and from its own outlets, so it was a whole lot easier for them to decide on a dutch auction. If these "institutional investors" decide to not purchase the stock of a lesser known company on its offering, the company is well fucked. Wall street knows this. I still think the funds and co who decided to not purchase google stock will do so in the future as it now essentially a "celebrity" stock. I still bet they are hoping for a diminished interest from the public at large, so they can buy on the cheap. So there probably won't be many dutch auctions in the future, and primarily from the very same tech companies that really need a dutch acution. Perhaps there can be a way to balanace the greed of these institutions with the betterment of these companies. Google will be a successful company, and I actually agree that perhaps the decision to do a dutch auction was not necessarily that of greed on the part of google but rather an idealism on their part. Reading through their letter to potential shareholders, I could not help but snicker at the idealism that was being displayed. But all luck to them, wall street needs less back stabbing, etc
