Ride-sharing company Lyft filed to go public last week, kicking off what investors expect will be a surge in initial public offerings, or IPOs, from Silicon Valley unicorns, or private companies in the U.S. valued at $1 billion or more.
Should wealthy investors try to get in on these IPOs before the stocks hit the market? There are plenty of reasons for caution, given the unpredictability of markets in recent months after 10 years of steady gains, and the fact most of the IPOs launched in 2018 didn’t do great last year.
But Jack Ablin, chief investment officer at Cresset Capital Management, recalls telling The Wall Street Journal in 2004 that Google’s IPO share price was “very expensive.” Google launched at $85 a share on Aug. 19, 2004; today the stock of Alphabet, as the company is now called, trades at about $1,150 a share, a 1,253% leap.
“I did learn my lesson,” Ablin says. “Especially for groundbreaking type companies—and I put Uber and Lyft in that kind of category—you can’t use traditional valuations as your guide.”
Instead of price-to-earnings ratios, for instance, investors need to consider the industry and the theme that the IPOs represent. Then, “you take the venture capital approach,” Ablin says, meaning, if you like ride sharing as a theme, buy both Uber and Lyft as the dominant players.
“From a risk-and-return perspective, if you like the industry, just own everything in the industry and don’t worry about the tit-for-tat competition that goes on underneath the surface,” Ablin says.
How To Buy Shares
To get in on an IPO, an investor is best off having a long-time relationship with one of the main investment firms selling the offering. For the Lyft deal, JP Morgan, Credit Suisse, and Jefferies are the lead underwriters, according to the registration statement filed with the Securities and Exchange Commission. The ride-sharing firm plans to file on the Nasdaq exchange.
“If you’re a client of these wirehouses, you can potentially get an allocation, depending on your relationship with these firms,” Ablin says, noting that the ability to get an allocation can test the strength of an investor’s connection.
Many clients seek wealth management relationships with institutions that also have investment banks so they can be close to this kind of deal flow. “That’s part-and-parcel of the relationship,” Ablin says. As fewer companies have gone public over the years, this connection has become less important.
But that may be starting to change. Ablin says tech companies see a window to issue shares. The annualized return of the S&P 500 index has been more than 17% for the last 10 years, a trend that’s unlikely to last. Yet the current environment for issuing shares is strong given investor appetite for large cap, growth tech stocks, Ablin says. “If I were in their position, I’d seriously consider issuing to the public too.”
To get an allocation, investors may have to agree to buy more shares than they actually want, however.
“If you want 100,000 shares, you may have to commit to 500,000, and then know you will be in a ‘shell game,’” he says. Meaning, investors have to be prepared to actually buy those 500,000 shares.
Buying on “the Break”
Investors who can’t get shares at the offering often try to buy “on the break,” that is when insiders and other first-time buyers sell into the broader market. The advantage of buying after the initial sale is the market will have more information about the value of the shares. But “you may have to pay a higher price,” Ablin says.
Chances are deals like Lyft’s will be priced at only a slight discount to their true value, since many of the insider owners are sophisticated private equity and venture capital investors. “They will want to squeeze as much value out of this as they can,” Ablin says.
What Should Give Investors Pause
The Class A shares Lyft is offering to the public will have one vote, while the firm’s Class B shares, held by co-founders Logan Green and John Zimmer, have 20 votes each. The registration statement says the co-founders “will be able to significantly influence any action requiring the approval of shareholders.”
While this kind of dual-share arrangement is becoming increasingly common among tech IPOs, investors, who hardly ever vote their proxies anymore, rarely push back. “The tech insiders want want the best of everything,” Ablin says. “They want control, but they want public market money.”
Another concern: Lyft’s management doesn’t expect to make money for 11 years, Ablin says. In other words, investors in today’s IPOs shouldn’t expect “to make a quick buck,” he says.
“Anyone investing in these IPOs, assuming you buy the industry, you are looking at a 10-year endeavor,” Ablin says.