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Initial Purchase Offers (IPOs)

November 13, 2012

The Risk Price (SF)™ is, by definition, “the least stock price at which the common stock of a company is likeable” (Goetze 2009) and although the criteria for “likeability” could be very subjective, personal and in the eyes of the beholder, so to speak, we also have an entirely objective criteria that makes it useful, and computable, for risk averse investors in the common markets. (Please see our Post, The Price of Risk, August 2012.)

There is really no reason for us to look at IPOs because the common markets already provide over $18 trillion of investment opportunities and $5 trillion of portfolios of Perpetual Bonds™ with persistent double digit returns for which we have more risk control than “Daddy at the Prom”. (Please see our recent Post, Investor Angst, November 2012, for more on that.) However, new IPOs are appearing at the rate of dozens per week (that’s what investment banks do and how they make their money) and, like sand on the wall, some of them will stick around and begin to define the future of industry and commerce that we would want to be a part of. And, indeed, the markets are changing. Please see our Post, The New Normal, November 2012, for some insight that ought to inform the current practices of investment risk management.

The Risk Price (SF) of an IPO is the offering price if we assume that the investors who are willing to pay it are, in fact, risk averse. That is, they are investing in order to obtain a return, firstly, above zero (capital safety) and, hopefully, above the rate of inflation. However, that needs to be confirmed by the broader market and it is confirmed if the subsequent stock price which we usually call the Stock Price (SP) tends to be above the Risk Price (SF) but it is not not confirmed if not. (Did you get that?) For example, it is possible that all the investors in a particular IPO “like green” or environmentally friendly, or “like technology” or “social media” but the rest of the market does not, or at least not now or just not the current offering. In any case, the investor in an IPO should not expect dividends and they are likely to make a profit (notwithstanding warrants) only if other investors eventually discover the same idea.

To illustrate, we can give three recent examples (GRPN Groupon Inc, GM General Motors, and TSLA Tesla Motors) that illustrate a lack of success in the after market, and GOOG Google Inc that demonstrates some success (although not without drama and current uncertainties). None of these four companies are in our current portfolios which are Perpetual Bonds™.

The first company, GRPN Groupon Incorporated, came out of the gate in November 2011 (a year ago) and it was said to be the largest IPO in tech stocks at $700 million and $20 per share since Google Incorporated raised $1.7 billion in 2004. It promptly slid from a market value of $13 billion to the current $2 billion and $2.60 per share.

(Reuters) – Groupon Inc raised $700 million after increasing the size of its initial public offering, becoming the largest IPO by a U.S. Internet company since Google Inc raised $1.7 billion in 2004. The global leader in “daily deals” is now valued at almost $13 billion after saying it increased the offering by 5 million shares to 35 million in total and pricing them at $20 each, above an initial range of $16 to $18. The debut of the three-year-old company, which sells Internet coupons for everything from spa treatments to nose jobs, is one of this year’s most closely watched. Its tiny float represents just above 5 percent of the company and helped drive up demand and price. That constraint — one of the smallest floats of the past decade — should support Groupon’s share price when it begins trading on the Nasdaq on Friday under the ticker GRPN, analysts say.

Exhibit 1: GRPN Groupon Incorporated – Risk Chart

Groupon Inc provides a local e-commerce marketplace that connects merchants to consumers by offering goods and services at a discount. The company features a daily deal on the best stuff to do, see, eat, and buy.

(Please Click on the Chart to make it larger if required.)

Nice work but we notice from the Chart that there was nothing for us to buy. The Stock Price (SP) was never established and the current Risk Price (SF) is $25 and well above the current stock price. The Risk Price (SF), by the way, is a plausible “takeover price” should any of our public pension funds see it as an “alternative investment”. But it seems rather forbidding, doesn’t it. (Please see our recent Post on Belts, Braces and Scaffolds, November 2012.)

GM General Motors Company (please see Exhibit 2 below) recovered from a near death experience as GM General Motors Corporation and emerged from a government backed Chapter 11 reorganization in 2009. In 2010, GM made an initial public offering of $20 billion that was said to be one of the world’s top five largest IPOs to date and the largest ever in the USA (Reuters, November 2010). GM returned to profitability in 2011 and the share price is up 20% this year but it has been a field day for the “volatility players”, still doesn’t pay a dividend, and we haven’t had any reason to own it, yet. The current Risk Price (SF) is $35 (and appears to be rising) and the current Stock Price (SP) is $25 with a downside volatility risk of minus ($2). (Please see our Post, Popoviciu’s Volatility, September 2012, for more information on the volatility risk calculation.)

Exhibit 2: GM General Motors Company – Risk Chart

General Motors Company develops, produces and markets cars, trucks and parts worldwide. It operates through three segments: General Motors North America; General Motors Europe; and General Motors International Operations.

(Please Click on the Chart to make it larger if required.)

TSLA Tesla Motors Incorporated (please see Exhibit 3 below) raised an astounding $266 million (well above its anticipated $200 million offering) at $17 per share and has since drifted upwards to $30 after the exciting first day ride, so to speak.

NEW YORK (CNNMoney.com, June 2010) — Investors snapped up the shares of Tesla Motors public debut on Tuesday, which raised $266 million for the glitzy but not yet profitable electric car maker. Tesla, which began trading on Nasdaq under the symbol “TSLA” priced its shares late Monday at $17 each, above the target range of $14 to $16. When the shares hit the open market, the stock shot higher: Tesla’s first trade on Nasdaq was for $19 a share. The stock immediately fell back below $18 to start the day, but soared as high as $25 before finishing the day at $24.64, up 45%. It was the first IPO by an American automaker since Ford Motor Co.’s debut in 1956. The offering tested investors’ faith in a company that has proven it can make functional and stunning electric cars but has never had a profitable quarter. PayPal founder Elon Musk’s seven-year old auto company lost $55.7 million last year and $260.7 million since its inception. The company has performed so poorly from a financial standpoint that Musk recently said he lost his entire personal fortune on Tesla.

Alas, we still have not had any reason to own it. The Risk Price (SF) shot up recently to $80 on a rising inventory of $160 million and a falling net worth to minus ($30 million) and, of course, the stock price remains in the volatility zone (N).

Exhibit 3: TSLA Tesla Motors Incorporated – Risk Chart

Tesla Motors Incorporated designs, develops, manufactures and sells high-performance fully electric vehicles and advanced electric vehicle power train components.

(Please Click on the Chart to make it larger if required.)

GOOG Google Inc (please see Exhibit 4 below) raised $1.7 billion in August 2004 at $85 per share which ballooned to $700 per share three years later (in October 2007) but then fizzled to under $300 in late 2008. (Who knows why.) We’ve owned it between $400 in 2009 and $650 in 2010 (the Stock Price (SP) Red Line above the Risk Price (SF) Black Line) but (perhaps unfairly) its been in the trading zone (N) since then. The current Risk Price (SF) is $800 and the current Stock Price (SP) is $700 with a volatility anticipated downside of minus ($55).

Exhibit 4: GOOG Google Incorporated – Risk Chart

Google Inc maintains an index of web sites and other content, and makes this information freely available to anyone with an Internet connection.

(Please Click on the Chart to make it larger if required.)

We, of course, don’t know the future but some analysts are wondering if Google will even be around in five years (“Why Google could disappear in 5 years”, Cadie Thompson, CNBC – Friday, 19 October, 2012) due to the pressures of increasing competition, increasing expense in providing “free” information, and changing technologies. In the meantime, Google, thank you for all that you’ve done.

Postscript

For those of you who would like to know more, our favourite book on the art (and science) of investment banking is by the master himself, Bruce Wasserstein (1947-2009) of Wasserstein Perella & Company and Lazard Fréres

Big deal : The battle for control of America’s leading corporations, by Bruce Wasserstein, 820 pages. New York, Warner Books, 1998.

For more information on RiskWerk, please follow the Tags or Categories attached to this Letter or simply enter Search for additional references to any term that we have used. Related data may be obtained from us (for free) in a machine readable format by request to RiskWerk@gmail.com.

Disclaimer

Investing in the bond and stock markets has become a highly regulated and litigious industry but despite that, there remains only one effective rule and that is caveat emptor or “buyer beware”.

Nothing that we say should be construed by any person as advice or a recommendation to buy, sell, hold or avoid the common stock or bonds of any public company at any time for any purpose. That is the law and we fully support and respect that law and regulation in every jurisdiction without exception and without qualification to the best of our knowledge and ability.

We can only tell you what we do and why we do it or have done it and we know nothing at all about the future or the future of stock prices of any company nor why they are what they are, now.

The author retains all copyrights to his works in this blog and on this website. The Perpetual Bond®™ is a registered trademark and patented technology of The RiskWerk Company and RiskWerk Limited (“Company”) . The Canada Pension Bond®™ and The Medina Bond®™ are registered trademarks or trademarks of the Company as are the words and phrases “Alpha-smart”, “100% Capital Safety”, “100% Liquidity”, ”price of risk”, “risk price”, and the symbols “(B)”, “(N)” and N*.

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