It is very important for companies to ensure that they use the most efficient method of fund raising when they go public. It might seem to an inexperienced manager that the method of capital raising which is chosen by the company does not have a large impact on the success of the firm’s IPO. However, the method has a crucial impact on the success of the company. Google’s IPO has been a surprise for many investors. The company decided not to take a traditional way in their IPO but to apply the method of online Dutch auction when raising the capital for the company. The results of Google’s IPO were in many ways controversial- the company actually raised lots of capital, but the company still did not manage to minimize the difference between the offer and open price as some other companies did. In this paper, the overview of Google’s IPO is given and advantages of this method of capital rising are described. The paper argues that the method of raising funds chosen by Google was very good for the firm, and that this method should be used by other companies in future. The method of online auction was very efficient for Google, even though the company did not manage to achieve some of its goals. Other companies need to be encouraged to use this method. Recommendations are provided concerning ways of minimizing the negative features of online auction IPO.
Online auction IPO’s are not a novel for many companies. This method was first used by firms in 1999 and since that time, many organizations applied online auction IPO in order to raise funds. Some of these companies were successful, others were not. This method reached its highest level of popularity after Google decided to apply it. Google’s IPO has been one of the major topics of conversation in business circles for a long time before the offering, even though Google was not the first one to apply it. “Google’s controversial IPO last year generated much interest not only because of its global name recognition, but also because of its use of the Dutch auction method in pricing and selling its offering.” (Hensel, 2005). The reason why Google’s IPO attracted so much attention was that most investors were expecting Google to go with traditional methods of IPO, the way many large companies did. However, Google’s management decided to use a non-traditional method of capital raising in order to achieve better results.
One of the greatest advantages of online auction IPO, which was taken into consideration by the management, is “its alleged minimization of the increase between the offer price and the opening price of the offering. From the perspective of the issuing company, this price increase represents “money left on the table” and, therefore, value which it did not appropriate” (Hensel, 2005). Online auction IPO is the most efficient method of minimizing the difference between the open and offered price.
Every company seeks to ensure that it offers the best opening price in order to raise lots of capital and sell all of the shares. In many cases, companies faced difficulties with determining the most efficient price in such a case. Too high of a price would prevent some investors from buying the stock which they would otherwise want to invest in. Too low of a price would certainly help to sell all of the shares, but they would start increasing in value very soon, and the company would regret that it did not set a higher price. Online auctions are believed to provide the best protection against both of the mentioned scenarios. All of the potential customers give their price online and the company is able to determine what price to set. It is much more difficult to determine the price of the stock in case of traditional IPO methods. In this case, only the opinion of large investors is taken into consideration, while the offers of small investors are completely ignored.
Google decided to take advantage of this feature of online auction IPO when weighing the decision about the method of its capital raising. However, the actual results turned out different from the expected ones. The company’s open price was $100 while the offer price was $85, which represented a 17.6% increase. Some companies which used traditional methods of raising funds had a much milder jump of the price. It is necessary to investigate this issue and determine the real reason of Google’s failure to minimize the difference between the offer and the open price.
First, the investors who gave their offers online were for the most part small and did not have all of the information about the company. Large investors who would be interested in the IPO in case of traditional method of capital raising have much more information about the company that the average investor. Small investors were interested in purchasing Google’s stock but they simply were not able to set the right price for their offer. Google could minimize the impact of this factor by providing more information to the public concerning the company. In the past, it was difficult to do because SEC required companies to be “quiet” during the period before the offering, i.e., the “quiet period”.
The companies could only provide certain types of information to the public in their prospects and during oral presentations. Obviously, large investors had a much large advantage during those years because they were able to attend the companies’ presentations. Smaller investors had little information about the company because they were not able to attend presentations. After 2004, SEC changed the rules concerning the characteristics of the “quiet period” and allowed companies to open more information to the public, as long as this information is disclosed to SEC. Google could take advantages of the new regulations in order to let average investors know more about the company for them to offer a more realistic price during the online auction. This simple step could considerable decrease the difference between the open and the offer price.
Second, investors giving offers online could simply be unaware of the reasons of Google going public with the help of online auction. Some of them could have a wrong impression that the company was raising funds in such a way because it failed to attract large investors in more traditional ways and is looking for non-traditional ways in order to rescue the company. “Due to the less rigorous scrutiny by investment banks and the consequent reduction in information provided by the issuing firm, the auction process could be used more by companies that may not have a clear sense of the uses for the funds that they are raising” (Hensel, 2005). Google did face this problem, while it could be easily avoided if the company provided more information about the reasons of this method of IPO.
Third, Google simply needed to take into consideration that some of the investors making offers online are not used to that, and they can be more careful with their offers than they would be in a traditional IPO. Many small investors prefer to give lower offers online in order not to get into any trouble. By taking into consideration this “carefulness” of some investors, Google could predict that the open price would be higher than the offer price which investors gave online.
The research has shown that online auction is a very efficient method for companies’ IPO as long as they take into consideration major problems which could arise from the auction. This method should be used by any company which would like to raise funds in a very efficient way. Online auction offers unlimited opportunities for companies, as long as they follow three simple rules. First, they should make sure that information about the company is disclosed not only to the largest investors but also to the public. Public needs to know about the strategic plans of the company and its prospects in the market. Second, the company needs to make sure it lets the public know about the real reasons of choosing this method of IPO. The public needs to know that this method was chosen because it is very efficient, not because the company is expecting to be a bankrupt in the near future. Third, the company needs to take into consideration that some small investors are very careful in their offers online and that the open price will be higher than the offer price. As long as these factors are taken into consideration, online auction will be very efficient for the company.
- Hedger Jim. Thoughts On Google’s IPO. 2004. Accessed on May 12, 2006 at URL: http://www.webpronews.com/ebusiness/seo/wpn-4-20040811ThoughtsonGooglesIPO.html
- Hensel Nayantara. Are Dutch Auctions Right for Your IPO? April 11, 2005. Accessed on May 12, 2006 at URL: http://hbswk.hbs.edu/item.jhtml?id=4747&t=finance
- Ryan Kevin. SearchTHIS: ‘Twas the Night Before Google’s IPO. 2004. Accessed on May 12, 2006 at URL: http://www.imediaconnection.com/content/4816.asp