Initial public offerings (IPOs), particularly those involving familiar companies, often draw considerable attention from investors. New data shows the amount of cash raised by initial public offerings (IPOs) hit a new record high in the first half of 2021.
According to Bloomberg, IPOs raised a record $350 billion in the first half of this year, beating the previous six-month record of $282 billion in the second half of 2020. This year's IPOs have been a very different breed too: more renewable energy companies and online retailers than tech stocks and special-purpose acquisition companies (SPACs).
The boom is being fueled by the flood of cash central banks are pumping into the global economy and the rise of individual investors who are increasingly keen to buy into their favourite companies. And the party's likely to keep going as long as the stock market keeps on rising – so much so that this year's total proceeds are expected to top 2007's full-year record of $420 billion.
Historically, the most common path to enter public markets was through an initial public offering (IPO). While IPO activity remains vibrant, entryways such as direct listings and special purpose acquisition companies (SPACs) have drawn fresh attention.
Consequently, investors have been forced to evaluate what, if any, impact these roads less travelled may have on investment decisions.
So in this article, we examine IPOs, SPACs, and their end results.
Traditional IPOs
In a traditional IPO, the company issuing new equity hires an investment bank to provide underwriting and advisory services for the offering. The investment bank helps pitch the company to potential investors, commonly via what's known as a roadshow, in an effort to introduce the company to investors, drum up demand for the shares, and subsequently formulate an initial offering size and price that reflect investor interest. Investors awarded an allocation purchase shares through a primary market transaction, following which the shares are listed on an exchange and available to trade.
Research by a global fund advisor Dimensional highlights a few IPO features that can impact aftermarket pricing, such as underwriter pricing support and shareholder lockup agreements. The fund manager says they avoid purchasing IPOs for up to one year to alleviate the potential impact of such post-offering activities.
Locally this mantra appears sage with the recent listing of My Food Bag (NZE: MFB). Many excited customers took up the offer of a priority allocation of shares in March 2021, for the list price of 1.85 NZD each. Now those investors are seeing a 26.5% loss with the current price at 1.35 NZD. The capitalisation or market value of the company has fallen some $123m when the broader NZX50 index is up 2.10% over the same period.
SPACs
SPACs are a modern version of a "blank check" company designed to use the cash raised in an IPO to merge with or acquire an operating company. When the target is a private company, the transaction works like a reverse merger, allowing the private firm to enter the public market. While the vehicle has been around for decades, SPAC activity rose to new heights in 2020 and continued to outpace historical levels through the first quarter of 2021.
As SPACs took the investing world by storm, cracks in the too-good-to-be-true approach began to appear. Several young companies became targets of short-sellers, determined to see the stock price fall from lofty heights.
The most noteworthy example was battery-electric and fuel cell truck startup Nikola Corp. (NASDAQ: NKLA). Nikola, which designs and plans to manufacture hydrogen-electric trucks, first became a publicly traded company in early 2020.
Its shares more than doubled within days of completing a reverse merger in early March 2020 with VectoIQ Acquisition Corp, listed as VTIQ on the Nasdaq before the deal.
The stock price of Nikola rose by five times in the first half of 2020, with some incredible rises and falls since then.
Nikola's charismatic founder Trevor Milton then attracted interest from automaker General Motor Co. (NYSE: GM), which tentatively agreed to partner with Nikola to manufacture a hydrogen-powered truck called Badger in exchange for 11% equity in the company.
Two days after the announcement, which sent both Nikola and GM stocks higher, short-seller Hindenburg Research released a blistering 67-page report alleging that Nikola and its founder Trevor had lied extensively about the kind of technology Nikola had.
By 15 September 2020, the SEC and Justice Department announced they would be investigating Nikola over the allegations.
Nikola stock cratered. GM fell silent. The Badger was a road kill. Milton was out and gave up his board seat, leaving shareholders holding the bag. Nikola's share price dropped from its peak at nearly 80 USD in June to below 20 USD by late September 2020. Currently, its share price is 14.26 USD.
Implications for Investors
No matter the vehicle was chosen to navigate, once a company enters the public marketplace, it becomes subject to the same interactions between the supply and demand for securities that shape equity prices each day.
Therefore, it is important that investors understand the vehicle's mechanics and the associated price discovery process, regardless of whether current activity levels are sustainable.
We consider seeking professional advice to be wise, especially for long-term investors who should probably opt for a well-diversified portfolio and work with a qualified adviser who ensures your assets are secured and looked after.
Investors will likely be well served in the long run by adhering to an evidence-based approach with discipline and diversity rather than speculation and narrative.
This article is prepared in association with Dimensional Fund Advisors. The information provided, or any opinions expressed in this article, are of a general nature only and should not be construed or relied on as a recommendation to invest in a financial product or class of financial products. You should seek financial advice specific to your circumstances from an Authorised Financial Adviser before making any financial decisions. A disclosure statement can be obtained free of charge by calling 0800 878 961 or visit our website, www.stewartgroup.co.nz
