IPO investing requires keen timing

The past year has produced some red-hot initial public offerings, but gravity eventually caught up with many of these high fliers.

Dawn Kawamoto Former Staff writer, CNET News
Dawn Kawamoto covered enterprise security and financial news relating to technology for CNET News.
Dawn Kawamoto
5 min read
For much of this year, initial public offerings by many tech companies have racked up surreal triple-digit gains on their first day of trading. But for many investors the real question is, "What have you done for me lately?"

That question has become more pertinent as 1999 appears to be closing with a bang. The past two Fridays have been dominated by news of IPOs that went through the roof: Akamai Technologies and Sycamore Networks.

The pattern could hold true again today as Webvan and Cobalt Networks begin public trading for the first time.

In the past 12 months, a series of wildly successful IPOs have been launched, beginning with TheGlobe.com's 606 percent first-day surge in November 1998 through last week's 458 percent gain by Akamai.

When ranking IPOs based on their first-day performance, the list of the ten top performers is comprised entirely of tech stocks that went public in the past 12 months.

What goes up...
Such early moon shots, however, have proven difficult to keep aloft.

"Usually stocks plateau around four weeks after they debut and then they modestly drift downwards," said Richard Peterson, an IPO analyst with Securities Data. "Two to four weeks after an IPO is usually the window of opportunity to hold onto a stock before selling it if an investor is going to be a trader."

Reviewing the performance of the top ten first-day gainers provides some evidence to support Peterson's observations about IPOs.

Stock in Priceline.com, for example, jumped 331 percent when it reached the market March 30. Four weeks later the shares peaked at 165. Yesterday they closed at 53, a 23 percent decline from their first-day close. Priceline allows customers to name the price they are willing to pay on a range of goods and services.

The ups and downs of IPO
investing Stock in TheGlobe.com, meanwhile, peaked on the first day--not four weeks later. TheGlobe.com shares surged 606 percent to close at 31.75 on November 13, 1998. At one point during that frenzied first day they reached 48.50. (The price reflects a 2-for-1 split in May.)

But that first day proved to be a peak, as the shares have never again traded that high. Shares in the builder of Web communities closed yesterday at 10.38.

Shares in Ask Jeeves, a Web search-engine company, have proved something of an anomaly by steadily rising months after the IPO.

Ask Jeeves's shares gained 364 percent on their first day of trading July 1. Since then they have gained another 80 percent, closing yesterday at 116.75.

Hidden gems
Some companies that had mediocre debuts have gone on to post spectacular gains. F5 Networks, for example, began public trading June 4 and closed at 14.88, a gain of about 48 percent. Shares in the company, which makes networking products that manage Web traffic, closed yesterday at 144.69.

Although there is no simple formula for striking it rich in the IPO market, it is clear that early investors stand the best shot.

To meet demand from investors wanting to get in early, some brokers are offering limited access to IPO shares--an arena that previously was reserved for institutional investors and high-net-worth investors.

E*Trade, for example, allows its customers to participate in IPOs and secondary offerings where Robertson Stephens or E*Offering is the lead underwriter.

Steven King, vice president for E*Trade's investment banking operations, said customers must fill out a form if they want to participate in an IPO. The company then randomly selects those investors who can purchase 100 shares at the IPO price.

E*Trade customers participated in 100 IPOs and 20 secondary offerings this year, compared with fewer than 20 IPOs last year. "Demand for our IPOs has been great," King said.

Marta von Loewenfeldt, a spokeswoman for broker Charles Schwab, said her company has encountered a similar experience in which demand outstrips supply.

During the past three years, Schwab has participated in IPOs in which JP Morgan, Credit Suisse First Boston, and Hambrecht & Quist have been the lead underwriters. The company also issues 100 shares to investors who are eligible to participate in its IPO program.

During the first half of this year, the company has participated in 29 IPOs and 15 secondary offerings. Last year, Schwab customers had access to 27 IPOs and 27 secondary offerings.

Investment banker FBR Group also allows individual investors to buy into IPOs through its FBR.com subsidiary.

The company requires a minimum account balance of $2,000 to participate in IPOs in which FBR is the lead underwriter or a comanager, such as with the May IPO of CareerBuilder.

Customers can purchase 100 to 500 shares. If demand outstrips supply, the company holds a random drawing to determine which customers can participate, said FBR.com president Suzanne Richardson.

Online brokers acknowledge that some investors will be left out of the loop in snapping up IPO shares because of demand. That leaves many to consider the next best thing--buying shares the first day of trading.

King offers a warning to investors who place market orders during a first-day feeding frenzy: With a market order, an investor is telling the broker that he or she is willing to pay whatever the going price is for a stock.

"A market order can be dangerous," King said. "If an investor has a price in mind that is close to the IPO price, they may be surprised when it comes out at five times its offering price for the first trade," King noted.

Investors can get in even earlier
For investors who want to get in on new stock offerings even before the IPO, there is some hope.

Companies such as OffRoad Capital and Garage.com allow affluent investors to participate in funding companies pre-IPO.

Although the Securities and Exchange Commission limits such investments to people who maintain a net worth of at least $1 million, the number of people who meet the criteria is growing.

Charles Schwab recently announced it is teaming up with OffRoad Capital to allow its clients with $1 million in their Schwab account to invest in pre-IPO deals.

OffRoad Capital requires clients to invest a minimum of $25,000 per company. The investment bank funds only deals in which a company is generating revenues and is considered "later stage," said OffRoad founder Stephen Pelletier.

"Traditionally [venture capital firms] require about $75,000 for private equity deals," Pelletier said. "Investors say they like our service because they can invest in several companies and diversify their portfolio."

OffRoad, which was started in March, has nearly 2,000 accounts and has completed one deal. The company recently funded $4.5 million to PlexusNet Broadcasting and has a second deal nearing completion, Pelletier said, adding that 97 investors participated in the first deal.

Garage.com, meanwhile, funds early stage companies. Average investments range from $50,000 to $100,000 per company, but that may vary. Garage.com brings angel investors together to fund various start-ups.

But investors looking to participate in venture funds need to pack a bigger wallet.

"With venture firms, investors commit a certain amount of money and receive a percentage of ownership in the fund, as opposed to investing in a specific company," said Nancy Dorman, a general partner for New Enterprise Associates. "NEA's minimum is $5 million to invest in our fund, which I believe is fairly low for a lot of venture firms."

Jean Yaremchuk, research director for VentureOne, says she sees a day when less adventuresome investors may be able to also participate in venture funds.

"I think mom and pops are a natural progression," she noted.