IPO Aftermarket

IPO Aftermarket
There are two parts to the aftermarket for new issues or initial public offerings. Underwritten IPOs have hectic trading in the first few days after they are released.

The longer aftermarket is another matter. There are two things to remember when looking at the aftermarket for an initial public offering.

First, the market for IPOs is cyclical, which is to say that the demand for public offerings, especially underwritten public offerings comes and goes. During a bear market, it is very difficult to sell an IPO, but in a bull market, when there is too much money washing into the market, new issues will start to sell at premiums to their offering price and everyone will pile into the game until there is a glut of new issues and the bubble bursts. This is a fad business.

Second, new issues are often sold at relatively high prices. The company may have been able to negotiate a strong price for the offering with the underwriter. Also, in order to market a new issue, the company, the underwriter and the selling group have been whipping up demand. Thus, it may come to pass that the price of the offering is generated more by enthusiasm than value.

Before commenting on the importance of the aftermarket, let's look at some recent examples so we can see what we are talking about.

Demand Media, Inc.

Chart courtesy of Stockcharts.com

Demand media was originally scheduled to offer stock at $14 to $16, but raised the offering price to $17 at the last minute. Selling shareholders were a significant part of the offering. The deal valued the company at over $1 billion.

Note the huge volume on the first day when the stock went to about a 33% premium. Note the volatile trading in the first three months, after which the stock starts to sag, eventually going to a little over half the IPO price.

Friendfinder Networks, Inc.

Chart courtesy of Stockcharts.com

FFN cancelled plans to go public in February of 2010, finally made it on May 11, 2011, pricing the stock at the bottom of the expected $10-$12 range. In less than a week, it sold at $5,35.
Note the large volume on the first day of trading. The offering fails to hold the offering price and in about a month goes to 50% of the offering price. This is the risk you take as a long term IPO investor. The shorts won.

Pandora Media, Inc.

Pandora was offered at $20, up smartly from its initial public offering price of $16. The expected price range was $10 to $12 and the company added another one million shares to the offering as well. The stock went to a big premium in its first day of trading but soon dropped below $13.


Chart courtesy of Stockcharts.com

Linkedin was offered at $45, rose as much as 171 percent in the first day of trading on the New York Stock Exchange and closed at $94.25, or more than 109 percent of the $45 IPO price. This pushed its valuation from the $3 billion originally proposed to nearly $9 billion.

This event officially declared the IPO market for social media “hot,” only to be whacked by President Obama's debt debacle, but LNKD stood tall even then, even after a rather unusual downgrade by its underwriter.

The Importance of a Strong Aftermarket

First, with a strong aftermarket, you look good. The investors and the brokers remember your success and are eager for more.

Second, you don't get sued. Nobody ever sued a company for making money a stock.

Third, you can raise more money later and the insiders can lighten up on their position at a good price.

Leaving Money on the Table

Much is said about underwriters underpricing IPOs and “leaving money on the table.” Kindly be informed that the underwriters are expected to underprice the stock 10-15% to whip up demand to help sell the stock. Why buy a new issue at the same price that other, similar stocks with proven records are trading? Investor need and deserve some incentive to get in.
It is also very difficult to anticipate what the market will do with a particular stock, as you can see from the pricing decisions and aftermarket trading that is shown above.


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