What Not to Buy Just Yet—IPOs on the Internet – Internet direct public offerings

What Not to Buy Just Yet—IPOs on the Internet – Internet direct public offerings – Brief Article

Robert Frick

The Internet is working its magic on how we buy everything from books to plane tickets to cars. Why shouldn’t buying a newly issued stock directly from a company going public–a so-called direct public offering (DPO)–be any different?

At first glance, Internet DPOs seem a splendid idea. Documents posted on the Web avoid costly printing bills. And hiring an investment bank to sell stocks can cost a company a couple of hundred thousand dollars–typically 6% of the capital raised. Best of all, small investors who generally don’t get a share of juicy initial public offerings (see “IPOs for the Rest of Us,” May 1998) can have a shot at newly minted stocks, which often see immediate run-ups in price. Through the first nine months of 1998, 232 companies registered for direct public offerings, many of them sold over the Internet.

GODSEND. For some small companies, DPOs are a dream come true. Internet Ventures, a Los Angeles company that sells high-speed Internet service, used the Internet to help raise $2 million in private financing before completing a $5-million DPO last summer. Raising money via the Internet “worked very well for us,” says president Donald Janke.

But happy endings for sellers tend to be the exception, not the rule. The main problem is that DPOs are being done almost exclusively by small companies raising less than $5 million. Bigger companies can afford to pay an investment bank to sell the stock for them. In any case, small companies often mean weak companies. And for investors, such a limited market means that too many small offerings are outright frauds.

CRITICAL MASS. Even one of the lead firms that helps to market DPOs on the Internet, Direct Stock Market (www.dsm.com), got caught when a company it represented turned out to be a scam. While admitting that the system has flaws, Clay Womack, Direct Stock Market’s chief and Internet DPO pioneer, says that once he has a “critical mass” of 50,000 to 60,000 investors looking at Internet DPOs, more and better deals will start to flow online.

Critics of such deals say that while a strong DPO market is possible, it will come later rather than sooner. One study predicts that the DPO market won’t flourish until 2005. Andrew Klein, who markets public offerings online, believes that the work that intermediaries (primarily investment banks) do to screen companies that want to go public and to create a solid market for the companies once stock is sold is crucial. His company, Wit Capital, specializes in selling portions of IPOs that have been put together by big, well-known firms.

NARROW FOCUS. Klein and others who follow the market point out that even when these small companies do go public, the stock is often sold to affinity groups–that is, customers of the company issuing stock–which does not make for a very broad or robust market for the stock. Take, for example, Annie’s Homegrown, a tiny New England firm whose chief product is all-natural macaroni and cheese. The company sold virtually all its stock to customers, many of whom learned about the IPO from notices inserted in its mac-and-cheese packages.

Tom Stewart-Gordon, who tracks raising capital for small businesses in his Scor Report newsletter, says that in 1994 he made a speech claiming “we were on the ground floor” in raising money over the Internet. “We’re still on the ground floor, but I think there’s some tension in the cable.”

BRIEFS

While Standard & Poor’s 500-stock index returned 28.6% last year, just 50 stocks–almost all of them of large, growing companies–accounted for 85% of that gain. The median stock in the S&P rose just 4.4% …. Of the ten largest fund companies, Fidelity had the best-performing diversified U.S. stock funds on an asset-weighted basis in 1998. Next were Amvescap (Invesco and AIM funds) and Vanguard and Capital Research’s American funds…. Fidelity Growth & Income II Portfolio (800-544-8888) has been launched…. Two new funds the world could have lived without: Value Trend Links (800-590-0898), which specializes in golf-related stocks, and StockCar Stocks Index (877-223-3863), which will follow the fortunes of auto racing and its sponsors.

COPYRIGHT 1999 The Kiplinger Washington Editors, Inc.

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