Bill Gurley has often been an atypical venture capitalist, willing to challenge the status quo on many aspects of the VC business. For many years now, he has sounded the alarm on how private market investors have paid too much for scaling models and not paid enough attention to building sound businesses. In the last few months, he has been aggressively pushing young companies to consider the direct listing option more seriously. His primary argument has been focused on the underpricing on the offering date, which as he rightly points out, transfers money from private market investors to investment bankers' favored clientele.
In fact, he has pointed to absurdity of paying for an underwriting pricing guarantee, where the guarantors get to set the price much later, and are open about the fact that they plan to under price the offering. In fact, the danger with focusing on the offer day pricing jump runs two risks.
Bloomberg - Are you a robot?
I think that a far stronger and persuasive argument would be to show that the problem with the banking IPO model is that changes in the world have diluted and perhaps even eliminated that value of the services that bankers offer in IPOs, requiring that we rethink this process. In the last section, in the process of defending the banker presence in the IPO process, I listed a series of services that bankers offer.
Given how much the investing world, both private and public, has changed in the last few decades, I will revisit those services and look at how they have changed as well:. No timing skills : To be honest, no one can really time the market, though some bankers have been able to smooth talk issuing companies into believing that they can. For the most part, bankers have been able to get away with the timing claims, but when momentum shifts, as it seems to have abruptly in the last few months in the IPO market, it is quite clear that none of the bankers saw this coming earlier in the year.
Boilerplate prospectuses : When I wrote my post on the IPO lessons from WeWork, Uber and Peloton, I noted that these three very different companies seem to have the same prospectus writers, with much of the same language being used in the risk sections and business sections. While the reasons for following a standardized prospectus model might be legal, the need for banking help goes away if the process is mechanical. Mangled Pricing : This should be the strong point for bankers, since their capacity to gauge demand by talking to investors and influence supply by guiding companies on offering size should give them a leg up on the market, when pricing companies.
Unfortunately, this is where banking skills seem to be have deteriorated the most.
The most devastating aspect of the WeWork IPO was how out of touch the bankers for the company were in their pricing: Source: Financial Times I would explain this pricing disconnect with three reasons. The first is that bankers are mispricing these companies, using the wrong metrics and a peer group that does not quite fit , not surprising given how unique each of these companies claims to be. The second is that the bankers are testing out prices with a very biased subset of investors , who may confirm the mistaken pricing.
The first is that issuing companies, through their product or service offerings, often have a higher profile than many of the investment banks taking them public. I am sure that more people had heard about and used Uber, at the time of its public offering, than were aware of what Morgan Stanley, its lead banke, does.
The second is that the banking crisis has damaged the reputation of bankers as arbiters of investment truths, and investors have become more skeptical about their stock pitches. All in all, it is likely that fewer and fewer investors are basing their investment decision on banking road shows and marketing. What after-market support?
Model Corporation with Initial Public Offering (None)
In the earlier section, I noted that banks can provide after-issuance support for the stocks of companies going public, both explicitly and implicitly. On both counts, bankers are on weaker ground with the companies going public today, as opposed to two decades ago.
Second, the same loss of faith that has corroded the trust in bank selling has also undercut the effectiveness of investment banks in hyping IPOs with glowing equity research reports. Summing up, even if you believed that bankers provided services that justified the payment of sizable issuance costs in the past, I think that you would also agree that these services have become less valuable over time, and the prices paid for these services have to shrink and be renegotiated, and in some cases, entirely dispensed with.
Why change has been slow Many of the changes that I highlighted in the last section have been years in the making, and the question then becomes why so few companies have chosen to go the direct listing route. There are, I believe, three reasons why the status quo has held on and that direct listings have no become more common.
Inertia : The strongest force in explaining much of what we see companies do in terms of investment, dividend and financing is inertia, where firms stick with what's been done in the past, partly because of laziness and partly because it is the safest path to take. Fear : Unfounded or not, there is the fear that shunning bankers may lead to consequences, ranging from negative recommendations from equity research analysts to bankers actively talking investors out of buying the stock, that can affect stock prices in the offering and in the periods after.
The Blame Game : One of the reasons that companies are so quick to use bankers and consultants to answer questions or take actions that they should be ready to do on their own is that it allows managers and decisions makers to pass the buck, if something goes wrong. Thus, when an IPO does not go well, and Uber and Peloton are examples, managers can always blame the banks for the problems, rather than take responsibility.
I do think that at least for the moment, there is an opening for change, but that opening can close very quickly if a direct listing goes bad and a CFO gets fired for mismanaging it. The End Game. As the process of going public changes, everyone involved in this process from issuing companies to public market investors to bankers will have to rethink how they behave, since the old ways will no longer work. Issuing companies going public. Get real about what you bring to the IPO table : As I noted before, public and private market changes have put a dent on the edge that bankers had in the IPO game.
It behooves bankers then to understand which of the many services that they used to charge for in the old days still provide added value today and to set fees that reflect that value added. Speak your mind : If one of the reasons that the IPOs this year have struggled has been a widening gap between the private and public markets, bankers can play a useful role in private companies by not only pointing to and explaining the gap, but also in pushing back against private company proposals that they believe will make the divergence worse.
These teams are staffed with members who are bankers in name, but entirely Silicon Valley in spirit. It is natural that if you rub shoulders with venture capitalists and founders all day that you relate more to them than to public market investors. I am not suggesting that banks close their West Coast offices, but they need to start putting some distance between their employees and the tech world, partly to regain some of their objectivity. YouTube Video. Follow by Email.
Initial public offer pricing, corporate governance and contextual relevance: Australian evidence
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Most public offerings are in the primary market , that is, the issuing company itself is the offerer of securities to the public. The offered securities are then issued allocated, allotted to the new owners. If it is an offering of shares, this means that the company's outstanding capital grows. If it is an offering of other securities, this entails the creation or expansion of a series of bonds, warrants, etc.
However, more rarely, public offerings take place in the secondary market. This is called a secondary market offering : existing security holders offer to sell their stake to other, new owners, through the stock exchange. The offerer is different from the issuer the company. A secondary market offering is still a public offering with much the same requirements, including a prospectus.
5 - Corporate governance and initial public offerings in China
From Wikipedia, the free encyclopedia. Financial markets. Primary market Secondary market Third market Fourth market. Common stock Golden share Preferred stock Restricted stock Tracking stock.
Authorised capital Issued shares Shares outstanding Treasury stock. Electronic communication network List of stock exchanges Trading hours Multilateral trading facility Over-the-counter. Alpha Arbitrage pricing theory Beta Bid—ask spread Book value Capital asset pricing model Capital market line Dividend discount model Dividend yield Earnings per share Earnings yield Net asset value Security characteristic line Security market line T-model.
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