the table shows, not all IPOs are as well received as were Netscape and Boston
Chicken. Moreover, even if you are able to identify a “hot” issue, it is often difficult
to purchase shares in the initial offering. These deals are generallyoversubscribed,
which means that the demand for shares at the offering price exceeds the number of
shares issued. In such instances, investment bankers favor large institutional in-
vestors (who are their best customers), and small investors find it hard, if not im-
possible, to get in on the ground floor. They can buy the stock in the after-market,
but evidence suggests that if you do not get in on the ground floor, the average IPO
underperforms the overall market over the longer run.^5
Before you conclude that it isn’t fair to let only the best customers have the
stock in an initial offering, think about what it takes to become a best customer.
Best customers are usually investors who have done lots of business in the past with
the investment banking firm’s brokerage department. In other words, they have
paid large sums as commissions in the past, and they are expected to continue do-
ing so in the future. As is so often true, there is no free lunch—most of the in-
vestors who get in on the ground floor of an IPO have in fact paid for this privilege.
Finally, it is important to recognize that firms can go public without raising any
additional capital. For example, Ford Motor Company was once owned exclusively
by the Ford family. When Henry Ford died, he left a substantial part of his stock to
the Ford Foundation. Ford Motor went public when the Foundation later sold
some of its stock to the general public, even though the company raised no capital
in the transaction.Differentiate between a closely held corporation and a publicly owned corpora-
tion.
Differentiate between a listed stock and an unlisted stock.
Differentiate between primary and secondary markets.
What is an IPO?192 CHAPTER 5 Stocks and Their Valuation(^5) See Jay R. Ritter, “The Long-Run Performance of Initial Public Offerings,” Journal of Finance,March
1991, Vol. 46, No. 1, 3–27.
Martha Bodyslams WWF
During the week of October 18, 1999, both Martha Stewart
Living Omnimedia Inc. and the World Wrestling Federa-
tion (WWF) went public in IPOs. This created a lot of pub-
lic interest, and it led to media reports comparing the two
companies. Both deals attracted strong investor demand,
and both were well received. In its first day of trading,
WWF’s stock closed above $25, an increase of nearly 49 per-
cent above its $17 offering price. Martha Stewart did even
better—it closed a little above $37, which was 105 percent
above its $18 offering price. This performance led CBS
MarketWatch reporter Steve Gelsi to write an online report
entitled, “Martha Bodyslams the WWF!”Both stocks generated a lot of interest, but when the hype
died down, astute investors recognized that both stocks have
risk. Indeed, one month later, WWF had declined to just
above $21, while Martha Stewart had fallen to $28 a share.
Many analysts believe that over the long term WWF may
have both more upside potential and less risk. However,
Martha Stewart has a devoted set of investors, so despite all
the uncertainty, the one certainty is that this battle is far
from over.Source: Steve Gelsi, “Martha Bodyslams the WWF,” http://cbs.
marketwatch.com, October 19, 1999.