So there I was, reading the announcement of the Skype IPO filing and scratching my head. After all, a $100 million offering doesn’t sound like all that much when the current investors bought in at a $2.75B price a little while back. How tiny a share of the company were they going to offer? Two percent? Three percent?
And after all, don’t you need some float for institutions to be interested? And indeed, some industry watchers had previously speculated that the company might seek to raise a much larger offering: think north of a billion (one beeeeeeeeellllion dollars – said with pinky to corner of mouth.) I was even bouncing it around with a banker buddy who suggested that institutional public market investors today demand 10-20% of the shares to be floated as part of an initial offering; if he saw a random company executing a $100M offering, he’d said his guess of the total market cap would be in the $500M-$750M range. There’s no way that’s the case with Skype, particularly if they company is doing a couple of hundred million a year in “adjusted EBITDA” (also known as EBBS, Earnings Before, ahem, Bad Stuff.)
Now in fairness, I’m neither an investor in any fund that invested in Skype, nor am I a banker, so there may be a backstory to which I’m not privy. And who knows: that $100M offering amount may even be a placeholder for another, larger, offering amount. But the lunchtime conversations here in Silicon Valley keep coming back to the modest offering size.
But for me, it’s a case of deja vu all over again: it’s all about the magic of the thin float. You see, I still bear scars from having been a fundamentally-oriented equity analyst at a hedge fund of sorts in the late 90s. During that time, it was almost impossible to perform fundamental analysis and keep a beta-neutral book. There was just so much liquidity in the system that things like sector rotation and technical factors almost always trumped hard-nosed, Graham and Dodd, old school analysis. Try adding any short names to the portfolio! If something had a whiff of broken-ness, it was cheap and anything that was cheap was an acquisition candidate for firms flush with cash and inexpensive public currency. It seems that all of one’s short sales would get bought at a premium, wrecking performance.
And then, starting in earnest in 1997, the emerging tech firms got in on the action: pretty soon bankers figured out that floating only a tiny portion of a company set the stage for the stock to jump as retail investors would gladly pay up in the after-market, just to get in on the new, new thing (and the banks proudly touted their post-IPO performance in their pitchbooks). Things didn’t catch fire for fundamental reasons, they burst into flame because the thin float acted as both the ignition source and the accelerant. Just ask the guys at the Globe.com who priced at $9 and opened in the $80s.
And once the price got fixed at a certain level, existing holders could trickle out their shares at inflated prices. Of course, as we all know, that strategy worked until it didn’t.
Now, let’s be clear. I’m not being crabby about Skype. I’m keen for them to have a successful offering (if for no other reason, because their recent announcement of expansion plans in Palo Alto is probably good for my home value.) But if we learned any lesson from the late ’90s (and, more recently, the late ’08 action offered a similar lesson on the downside,) it’s that stock prices are only vaguely related to fundamentals; it’s supply and demand that sets the price. Maybe Old Man O’Malley’s Brooklyn wisdom had something to offer the public markets: “youse guys would pay twenny bucks for the last slice of dollah-fitty pizza at tree-toity in the morning when youse got your drink on . . .”