February 23, 2000

If you're looking to make a quick buck, you'd better get in onthe IPO market fast, as the days of that sweet IPO pop could be numbered. Or so say a few representatives from online investment banks who are doing the best they can to alter the process of pricing initial public offerings.

Despite efforts to use technology to make the IPO process more equitable, online brokers and banks have thus far failed. The investor base is looking to them to take charge and help create a more equitable process—-where the growing individual investor base can get access to IPOs, where deals are priced more accurately according to demand, and where the same rules apply to all investors. Much of this can be done through the use of technology and by lead managing deals. And FBR.com and the new investment bank being created by Charles Schwab, Ameritrade and TD Waterhouse are moving ahead in high gear to change the landscape.

Why the Need for Change?

It’s no news to anyone that the IPO market has been soaring for the past two years—-with prices rising 100% and 200% on the first day—-a phenomenon unfathomable five years ago. It’s all very cyclical—-the greater the excitement surrounding one IPO, the greater the demand for the next one ... and the greater that demand, the higher the stock price rises in the after market. Therefore, a company’s stock price could open at $20, and close the same day at $120—-exemplifying what is known as the IPO “pop.”

Watching these IPOs soar is enough to make you cash in your 401k and start trying to get a piece of the action. Unfortunately, if you’re an individual investor, your chances of getting shares in an IPO are next to nil. And the reason the stock prices are soaring is a result of the demand from individuals. There’s much more demand out there than the issuer and its lead bank take into account when it is pricing a deal because individuals are left out of the assessment process—something that only an investment in technology can address.

Although most seem to look at the IPO pop as a positive—because of the attention and excitement it draws—-who really stands to gain? Not the issuer. The issuer sells its shares at say, a measly $20, watches the price soar and wonders, ‘why didn’t we price our deal higher to raise more money for the company?’ As one former Merrill banker pointed out, “It was only about three years ago that when a deal traded up more than 15% on the first day, the underwriter was considered to have done a poor job.” On the flip side, the pop has other perks to the issuer, the company gets great publicity and it could always come back to do a secondary offering at a higher share price.