Say that the initial offering is for 10 million shares at $20 a share. Then the price pops to $30. That $30 share price is based on a much smaller net influx of investment. It does not follow that you could have sold 10 million of shares at that price. The $20 price is a discount that is needed to make the market clear a very large number of shares, all at once. Furthermore, the pop to $30 only happened because retail investors know that the institutions buying into the IPO are reputable, long-haul investors like Fidelity, who will not be dumping the stock immediately. So if you don't have Fidelity and other reputable investors putting in money at $20, you will never get the pop to $30. And because of their size and reputation and relationships, institutions like Fidelity will be able to command discounts, like any big buyer can. The IPO-ing company generally needs Fidelity much more Fidelity needs to buy the company's stock. Thus Fidelity can command the discount.
> ..retail investors know that the institutions buying into the IPO are reputable, long-haul investors like Fidelity, who will not be dumping the stock immediately.
From the article: "The first trade was 15% of all of the shares offered during the pricing."
Institutional investors "consistently flip a much larger
percentage of the shares allocated to them than do retail customers."[1]
Yeah, there were people screaming bloody murder in the news at the time, but to me it seemed like they were the rare ones who did it correctly. Unless your idea of "doing it correctly" is a wealth transfer to institutional investors.
In addition to the NASDAQ breaking the morning of the IPO, I think most of the disappointment lies with the stock falling by ~20% within a week of the IPO. Facebook both dramatically increased the number of shares available and the price at which their IPO shares were offered, and then fell completely flat out of the gate.
I definitely side with the companies more than investment banks in this scenario, and if you assume it was priced $5 too high, FB saw an extra $2.1B from setting the price 'too high'. Given that their price has doubled since then, I think most investors have forgiven them for their sins.
I don't know about GrubHub in particular, but it is normal to see first day IPO returns of 20% or more. The main reason is monopsony- there are a limited number of institutions that can make significant investments in new IPOs, and they demand a discounted price. Another factor is that there are just a few bulge bracket investment banks to facilitate large IPOs. Their loyalties are more with the repeat players that buy IPOs than the smaller players that sell them.
Note that the founders who sell into an IPO tend to hold onto a lot more stock than they sell, so they're not solely concerned with getting the best price at the IPO. Do you think when FB cratered after the IPO Mark Zuckerberg was smiling because he got a great price for the shares he sold?
Even Google wasn't smart or powerful enough to beat the system. They tried to do an auction instead of a regular IPO, but at the last minute large investors threatened to pull out, so Google IPOed at $85 and popped 17%.
> Do you think when FB cratered after the IPO Mark Zuckerberg was smiling because he got a great price for the shares he sold?
Yes, as a matter of fact, that's exactly what I think, and I don't blame him a bit or even think that's a bad thing at all.
You're framing it as the alternative being that the stock price is the same on the first day and doesn't crater. The actual alternative is that Mark sells his shares for the depressed price.
FB stock falling was actually a big embarrassment for both the company and the banks that ran the IPO. At best Zuckerberg had mixed feelings about selling at the (temporary) top of the market.
But my point was more that the institutional investors want a low IPO price and have the power to make an IPO fail if they don't get it, the banks running the IPO want a low price to make the investors happy, and the founders selling into an IPO have the least power and also have mixed incentives about the price.
Would like to understand this better: If you have such a well known brand name like Google or Facebook, why not manage a direct sale to the public via auction and cut out these institutional investors? Even if these institutions threaten to pull out, isnt there enough capital in the markets to absorb a $1B IPO?
Google originally planned to price their IPO using a kind of bastardized hybrid Dutch auction process but their timing was unlucky - the market dropped significantly between the time they announced their IPO to the day they actually floated, with Internet stocks performing worst of all (the NASDAQ Composite dropped 8%; Amazon dropped 15%). They ultimately bowed to pressure from the lead underwriters (I was working for Morgan Stanley at the time, so I remember it well) and agreed to reduce the price to a point that would guarantee a first-day pop[1]. It's generally accepted that it was underpriced[2].
Facebook actually did okay. The underwriters had to step in to support the stock price after the IPO, which actually implies that it was over-priced. Somewhat embarrassing for the underwriters but great for Facebook!
There were a spate of companies that did actually use the Dutch auction process around the Dot-com boom (e.g. Overstock) but it wasn't popular with institutional investors[3].
If you're interested in the topic, I'd recommend Information Markets by William J. Wilhelm Jr. and Joseph D. Dowling (Harvard Business School Press, 2001).
I would suggest that any time you try to cut out significant profit out of an established system, you've got the whole system working against you.
Sure, it can be done. But everything will be more difficult. And you'll have to do a lot more of that work yourself. And potentially mess it up. And potentially be sued when things go bad. The $ savings just turn into $ risk.
There's the overhead cost of working with the various brokerages, and then the marketing cost. Even when Google was a household name, the news of their IPO apparently did not reach enough interested investors to make it interesting.
Google tried exactly that, letting people bid for as few as 5 shares. It didn't work.
A company like GrubHub, with much less name recognition than Google, is much more reliant on a bank helping to market their IPO, and in a worse position to try an auction.
I wrote about it towards the end of the article a little bit.
There are a lot of interests in the IPO. perceiving "leaving money on the table" assumes the most important interest is the company's balance sheet.
Institutional investors would shy away from stock that had no potential upside to it, so getting this price right to attract the right kind of buyers (long term buyers decrease volatility ) but still maximize the cash to the company needs a process to find equilibrium rather than a maximizing strategy.
Ultimately the shareholders benefit more from a positive momentum on the stock rather than optimizing the price at the moment of the IPO
I think your overall thoughts on not-always-aligned-interests is really key to understanding the IPO process (or really any process..): when a company goes public, it's really a product being sold by the underwriter's sales team, and upside is a (the?) key factor in making the sale.
In addition to that, a company's goal in any fundraising effort should not necessarily be to get-the-most-money possible, but rather to balance: (1) getting the amount of money it needs to accomplish its goals/objective over a given period of time vs. (2) the control/ownership it will have to give up in exchange for that amount of money.
There may be times where the company achieves that optimization but there is still "money on the table" which is fine since the company achieved its objective, which is the definition of success.
