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IPOs Part II

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In my last post we talked about IPO basics, describing why a company would issue an IPO, and some of the attractive features of IPOs and the hurdles facing investors. Today, we are going to review some interesting IPO cases from recent history, both successes and failures.

As I mentioned in my previous post, taking a company public is a huge risk. As such, IPOs don’t happen cheaply, or overnight. A company risks a number of potentially bad scenarios, including not finding enough interested institutional investors, having a listing request denied, or not raising enough money to make the process worthwhile – all of which reflects poorly on the company’s financials moving forward. However, if a company is able to successfully tiptoe around that minefield, they can find themselves in a very attractive position.
One such company who recently experienced a failed IPO is Data Management Software developer Initiate Systems. They filed their initial registration for an IPO in November, 2007. Initiate Systems had big plans for the capital that was to be gained from their IPO. They had previously stated that they were hoping to use the capital raised to fund internal development of new products, to pay off some institutional debt and to help facilitate possible future acquisitions. However, Initiate Systems withdrew their registration in June, 2008. Unfortunately for Initiate, poor timing seemed to be their biggest issue. In the midst of a recession the availability of institutional investors was severely limited. Realizing that they weren’t going to be able to release an IPO with desirable enough terms, they withdrew their request with the understanding that a point later in time might be more attractive to complete the process. In a year or two, if the economy is back in full swing, they may attempt to go through the process again, with their probability of success increased.

Probably the most cited successful IPO was Microsoft’s, in March of 1986. Most successful IPOs follow the typical pattern of a steep climb, followed by a peak, a drop-off and then settling down at the end of trading. Microsoft however, pretty much increased in value throughout the day. The issue price was set at $21, but such a high demand for shares drove the price over $25, eventually peaking at over $29 a share, yielding a profit of nearly 40% in one afternoon for those able to get in on the opening price and sell at the peak. Probably what distinguishes Microsoft’s IPO from others at that time was the sheer demand and high volume of trading in that first day. In fact, more shares were offered as the day went on as a result of that high demand.
IPOs have been a mixed bag, though. The early 2000s saw a flurry of IPOs for technology companies, who had little to offer as far as actual products were concerned but who were able to generate a lot of buzz, leading to an explosion of overnight millionaires, essentially creating a bubble that would eventually burst and kill the technology sector for a period of time.
I find IPOs vastly interesting, and I’m not alone. Many academic articles lately have been focusing on predicting the success or failure of an IPO. With millions of dollars at stake, I can certainly see why. If you’re interesting in seeing which company’s have IPOs on the horizon, I suggest you check out the MarketWatch website.
-Michael
Twitter: @michael_dink

The Attractiveness of IPOs, Part I

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Investing is a constant battle between risk and reward. All investments lie on a spectrum ranging from the safest investments to those which can best be described as gambling; if you’re willing to accept a higher degree of risk, you are usually putting yourself in a place to potentially collect a higher reward. Of course, riskier investment tend to be quite volatile, and the probability of success is greatly diminished. As such, all investments should be approached with a clear understanding of the risk involved, and every investor should constantly be evaluating their personal risk tolerance level. With that being the case, a very attractive investment is the IPO, as it presents the investor with a high level of risk, but the payoff can be quite lucrative.

What are IPOs?

An Initial Public Offering (IPO) is when a company issues, for the first time, common shares of stock in their company to the public (referred to as “going public”). Obviously, this is a pivotal moment in the financial evolution of a company, and can be motivated by a variety of reasons. Likewise, for an investor, it presents an opportunity for a high level of growth, both in the short term and in the long term. Contrary to what some may tell you though, an getting in on an IPO is necessarily a golden ticket, and it can, in fact be disastrous in the wrong situation. Additionally, there are issues associated with investing in an IPO that could render this whole conversation moot, or at least diminish an IPO’s attractiveness.
Why Do Companies do IPOs?

Most commonly a company will issue an IPO for two reasons: either they are a small, young, rapidly growing corporation looking to raise funds to facilitate further growth, or they are an older, more established firm looking to leverage the power of being publicly traded.
Small, young companies obviously face a lot of challenges. The market is usually saturated with larger, more established corporations who maintain control of the customer base. Growth can be difficult, and even with support from private investors, money can be tight. One way these issues can be mitigated would be to go public; qualifying for and then issuing an IPO will raise a lot of money (potentially) very quickly for the company. These companies can maintain control of their organization while raising the funds necessarily to improve their position in the marketplace and better take on the older, more established firms in their market segment.
For older companies who are more established but remain privately owned, issuing an IPO offers more benefits than just raising capital (although that is also a common motivator). When a company goes public, they have to open their books up to stronger scrutiny. While this at first glance may appear to potentially be a bad thing, it also has its benefits. For one, if that company needs to borrow a lot of money, they can often get good rates on their loans, as the loan underwriters can better evaluate the solvency of a company. Additionally, mergers and acquisitions can also become easier, as shares in the company can be exchanged as part of the financial agreement.
But just because a company wants to go public doesn’t mean that they automatically qualify. Initiating an IPO is a long and arduous process, involving a series of banking underwriters, securities lawyers and the Securities and Exchange Commission (SEC). There are a multitude of issuance flavors (self distribution, all-or-none contract, dutch auctions, etc…) and secondary procedures involving the listing type, secondary offerings, etc… But be that as it may, the ultimate goal is to raise as much cash as possible in a short amount of time.
How Can You Make Money with IPOs?

IPOs can be great, because they allow an investor to get in on the “ground floor” of a security, which can yield great profits. For example, Google debuted at $85 a share back in 2004; five years later a single share in Google will cost you over $500. Additionally, IPOs are historically underpriced at their initial offering price, opening the door up for “flipping”, the process of buying into an IPO and then selling a short time after, when the stock prices shoots up, resulting in a huge profit in a short period of time. While great for the investor who does this, flipping is bad for the company, as the price difference between the offering price and the institutional value is viewed as “money left on the table”, short-changing the company vast amounts of capital that it was hoping to raise. Underpricing is done usually to avoid overpricing; when the initial offering price is too high, and the bank underwriters face difficulty in selling the number of shares that they are obligated to as part of their agreement with the company issuing the IPO. Additionally, the volatility of the initial share price can lead to institutional instability, as seen in the early 2000s, when .com startup owners sold larger numbers of stock that they held in their companies in an attempt to cash in on inflated share prices, leading to a cash crisis which often in turn lead to insolvency and financial ruin.

The Risks of IPOs?

Despite those issues, one might think that an IPO might be worth the risk, and one might be interested in getting involved. Unfortunately, it’s not as easy as calling up your local Charles Swab agent and placing an order. Most initial investors are institutional, and it can be very hard for an individual to get in on the action (and by very hard, I mean practically impossible for the average investor). Instead, IPOs should be treated as any other investment. Do your homework, determine if the company has a future, and if so, buy in – when you can, which will certainly be at a price higher than the issue price – and hold on through the inevitable volatility that comes in the first year after an initial offering. There are money making opportunities with this investment, like any other, but you have to have the proper knowledge. Although as an individual it is highly unlikely that you’ll ever have the opportunity to get in on the issue price, getting in early on a successful company can be a boon on any investment account.
In my next post I will discuss some of the most successful and unsuccessful IPOs in US history.
-Michael
Twitter: @michael_dink

Credit Card Reforms Coming Soon

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One of the most indelible images of the first few days of college is the ubiquitous presence of local banks on campus. These banks would recruit students to sit at a booth outside popular spots on campus and offer free shirts, Frisbees, mugs, whatever, in exchange for filling out a simple credit card application. A guy I knew said he mastered the art of filling out dubious applications in exchange for the free swag. Although I think they eventually figured him out and banned him from participating. But there was no shortage of students in line, eager to fill out an application in exchange for some stupid item worth no more than $5 that wouldn’t garner a second look if seen in a store.

That might be changing though. This year, Congress passed and President Obama signed into law the Credit Card Accountability, Responsibility and Disclosure Act of 2009 in May. The first of the provisions set forth by that new piece of legislation came into effect August 20th, with more substantive reforms expected to go into full force starting in February 2010. The aim of the CARD Act (as it’s referred to) is to address some of the issues experienced by consumers regarding the use of credit cards and some of the problems that the American public has run into, problems that contributed to the recession we’re currently pulling ourselves out of.

As I mentioned above, the first of many reforms targeting the credit industry were enacted this past August 20th. Some of those reforms include:

* Lenders must give consumers at least 45 days before enacting any “major” changes to the contract
* Lenders must mail bills at least 21 days before payment is due
* Consumers have the right to reject interest rate increases
* Consumers have the right to pay off their existing balances under their old interest rate within 5 years

These, however, are just the first steps. This upcoming February, the second wave of reforms will go into effect, although there is a push to move up the start date to this upcoming December, although that is unlikely to happen. Some of those reforms include:

* Penalty rate increases can’t occur on an account until the consumer is at least 60 days late with payments
* Entry promotional rates have to have a term of at least 6 months and the full terms of the promotional and regular rates must be “clearly” disclosed to the consumer
* If a consumer remains in good standing with the lender, rate increases cannot occur within the first year of an account being opened
* New accounts will be harder for consumers under the age of 21 to open without a co-signer or verification of independent income
* Double-cycle billing will be illegal

Those are just a few of the many provisions to be enacted on February 22nd, 2010, which, as you can see, is more extensive and far-reaching than those that were put into effect this past August. Also, you’ll notice I put a few of the words in parenthesis, as this bill (like a lot of legislation it seems) is vague in some parts. What exactly is a major contract change? What is clear disclosure? While Congress attempted to reel in some of the more outrageous credit company practices, there is some wiggle room associated with the legislation, and it will be interesting to see what the reality is after the full bill has been put into action.

Hopefully, most of these provisions won’t have any impact for us as consumers. Interest rates shouldn’t matter, because you shouldn’t carry a balance on your credit cards. Same for most terms of the credit agreement, as well as the double-cycle billing problem and the penalties associated with late payments. But as a lot of us has experienced, there are times in which carrying a balance on a credit card is an unfortunate necessity. If that is the case, then these changes will be welcome.

Perhaps the biggest impact will be on young consumers. Already, changes to how credit scores are calculated have hurt those just starting their financial lives (by placing more weight on how long credit accounts have been opened; 3 years is the magic number). Now, with having to have a co-signer who is of age or proof of independent income, those under the age of 21 will have to wait to establish their credit history. This may not be a bad thing, however, as the average college senior with at least one credit card leaves school with over $4,000 in credit card debt. Not a good way to start your journey in personal finance and wealth building.

I know credit cards are a controversial topic within the personal finance community. How do you feel about these changes?

-Michael
Twitter: @michael_dink

A Recipe for Riches

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Fun article in Forbes called A Recipe for Riches, which goes into different quirky findings about what billionaires have in common.

Of course it seems that being born in a certain month isn’t necessarily the most important indicator for becoming rich, it is interesting to see what commonalities exist.

Cheers,

Miel

Things That Money Can’t Buy

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It’s good to have money and the things that money can buy, but it’s good too, to check up once in a while and make sure that you haven’t lost the things that money can’t buy.

– George Lorimer, editor of the Saturday Evening Post

Today I’m enjoying something money certainly can’t buy. A ten year reunion of my fellow Returned Peace Corps Volunteers from Ghana. It is great to see old friends and remember our unique and incredible experiences together.

Readers: What experiences wouldn’t you trade for money?

Best,

Miel

Bank CD Rate Basics

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Hello Folks,

This posting is on a bread and butter financial product: Certificates of Deposit. Whether you are shopping for a CD or just want to know more about them here are some points to keep in mind.

First, CDs are essentially debt instruments issued by banks that carry interest. They are attractive for a number of reasons; primarily because they have security and pay interest. CDs are more secure places to stash one’s cash than stocks or corporate bonds primarily because they are covered by FDIC protection. However, in return for this level of security you typically receive an interest rate somewhat better than cash, but not as good as yields on corporate or municipal bonds.

CDs come in varying maturity levels. Maturity rates are important because they impact your financial planning. If you need your money relatively soon – say in the next three to six months – you might consider an alternative to a CD such as a savings or money market account. If you have a longer term goal, CDs may be appropriate. A good example of when might be the right time to buy a CD is when you are saving up for something like a house down payment. You will have to save quite a chunk of change, but you also don’t want to get stuck with a low interest rate. In this case, CDs are a good way to go.

Another example would be putting your emergency fund into a set of laddered certificates. Laddering is a technique of buying CDs with various maturing lengths. For example you might purchase some CDs with 3 month maturation dates, some with 4, some with 5, etc etc. This means that at on any given month you would have some CDs maturing, allowing you free cash in case of emergencies. By keeping your money in CDs you could also be earning a relatively higher rate than alternatives like a checking or savings account. Thus, laddering allows you to kill several birds with one stone.

Once you’ve determined that a CD is right for you, it is necessary to do your homework and find the best bank CD rates. Rates can vary from bank to bank, so it pays to shop around.

Finally, despite some improvements, current economic conditions are encouraging banks to behave badly towards their customers. Here are three things to keep in mind.

1) Many account agreements allow banks to seize your funds if you fall behind on a loan. Therefore, it is also wise to consider having your CDs in a bank separate from your mortgage or car note. Some banks have the policy that if you were to fall delinquent on your loan payments they would be able to seize your CD.

2) Your bank has the right to hold on to your CD account and prevent you from withdrawing your funds in the event of a possible bank run.

3) Be aware of the renewing policies for your CDs. It’s possible for a bank to roll over your CD at very low rates without telling you in advance.

Happy Saving,

Miel&James

Being Frugal with Splurges

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Keeping an eye on spending is hard. I know many people who keep every receipt, for every transaction. I’m sure that’s a great system, but I haven’t been able to do anything like that for more than a week or two at a time before I revert back to just ignoring my receipts. They’re just going to end up in the laundry or in the trash or perhaps that cat will get a hold of them and rip them to shreds on the carpet. Still there is some benefit to keeping them, but I have other ways of tracking and managing my spending so I’m pretty ok with what I have going on.

After all, why do we track our spending? Why is it so hard to stay on a budget when we don’t keep close tabs on where our money is going? I, for one, know that if I get lazy about staying on top of where my money is going I tend to spend more than I should (why do I always assume I have more money than I actually do, rather than less?).

Humans are habit-driven creatures, and frugality, much like a morning cup of coffee or eating out on Friday’s, can become a habit. Of course, people can go a bit overboard and spending can be clipped too much. But, in my experience, just like attempting to adhere to a strict diet program can lead someone to “cheat”, making them feel discouraged and then fall back into old bad eating habits, attempting to completely cut out or severely reduce all non-“essential” spending can cause a backslide into old bad financial habits. Simply put, harsh budgeting is simply not sustainable. Now, if you’re living above your means and find yourself in a truly bad financial situation, then sometimes drastic steps need to be taken.

But it’s fun to splurge sometimes. It’s not fun (for me at least) to develop and stick to a budget. Added on top of that is the fact that I am a pretty impulsive person. As I look out across my living room I see a TV, a PlayStation 3 and a bass guitar that I all bought on impulse. Ignoring for the sake of argument the fact that I enjoy and have gotten more than my money’s worth in entertainment out of all three items, it’s not hard to see that this is a potential problem. It’s crazy too when I think about it. I mean, I keep books in my Amazon.com wish list for literally months until I’m sure that I’m comfortable buying them, but catch me in the right mood and the right situation and I might just walk out of an electronics store with a new toy worth a couple hundred dollars. Thankfully this doesn’t happen often (I think the last time was the PlayStation, which I got sometime early in the summer) but still. Not good behavior.

I’m working on resisting the temptation to splurge in that manner when I get to feeling like that but there’s no denying that most everybody from time to time has been known to drop some money on something new and (mostly) unnecessary. And I truly believe that this is not necessarily a bad thing (unless of course, you’re experiencing dire financial straits).

After all, why do we have a job, if not to provide for our needs and satisfy (a certain subset of) our wants? This doesn’t give us excuse to satisfy every want; after all, frugality is not done for the sake of frugality, but rather, to handle short-term sacrifices in exchange for longer-term benefits.

But we can treat ourselves occasionally – as long as we can afford it – without it getting out of control. Here are some tips that I either use, or have done in the past, that both allow me to splurge while not putting my finances at risk:

  • Petty Cash – I should really go back to doing this, but for a while whenever I went to the ATM I would withdraw an extra $20 and I would put it in a designated envelope. Slowly over time I would accumulate a reasonable amount of money, and whenever I impulsively bought something, I would use that cash if it was handy; if it wasn’t, then I would deposit the contents of the envelope into my bank account.
  • Leverage the Power of the Internet – Not only is the internet good for doing research before going out and buying something, it offers a wider variety of merchants than what you can find with typical brick-and-mortar stores in your area. I’ve been out shopping before and about to buy something when I thought “well, I could probably get this cheaper online.” Then when I get home, either enough time has gone by that the impulse has passed, or I’m able to save money by getting it somewhere cheaper. Some of my favorite frugal websites are:
    • Amazon.com (including their Gold Box deals) for everything imaginable
    • woot.com I wanted to get a netbook, had some money set aside for it but didn’t want to pay over $200 for one. Recently, a new one became available on woot for $175. Awesome!
    • retailmenot.com Coupons for every major vendor
    • newegg.com For cheap computer supplies and excellent service
    • Zappos.com Good product and legendary service. They deserve their own post due to how great they treat their customers.
  • Keep a Physical List of Financial Goals Big and Small – This may seem trite, but it’s helped me out. Sometimes we all need reminders for why we’re trying to be frugal. Whether it be a house, retirement, a new car, or a new TV or video game, we’re always saving for something. But the daily toll of trying to be frugal can sometimes cause us to lose our perspective. Once reminded, it’s easy to get back on track. But once we lose sight of our real financial goals, then we’re setting ourselves up for failure. Or at least irresponsible spending that takes us further from our goals.
Readers: Do you save for every splurge, or do are you an impulse buyer like me? How do you treat yourselves without hurting yourself financially? What tactics do you use to help focus on your long-term goals?
-Michael
Twitter: @michael_dink

Update: This post was featured on The Festival of Frugality

Invest Green? – What to Consider

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Are you thinking of investing in green stocks and technologies? Consider a few key issues before you put your money on green.

First, make sure that you cover all of the other due diligence for investing in stocks. Just because you can feel good about making a difference in the world doesn’t mean that it is wise to do so without looking at the bottom line of the companies or funds that you are investing in.

Secondly, keep in mind the volatility of the market in green stocks. In the plummet of stocks last year green stocks took a beating of 50-80%, whereas the overall market fell 34%. While green stocks have begun to rebound faster, it is still a real and potentially greater risk for going green.

Additionally, a changing regulatory environment makes it harder to gauge the potential returns for green energy such as solar power alternative energy, etc. With cap and trade likely to show up on the near horizon that may change the playing field greatly, as well as potential credits for green jobs and the like.

Lastly, remember that “green” is a gray area. The regulatory structure around what is defined as “green” isn’t well established. This means that companies that may label themselves as green may very well not have much to back up that claim.

Good Luck Going Green!

Miel

Free Online Financial Education Resources

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One of the best things about the internet is the abundance of free resources in every topic imaginable. In fact, when I’m coding my best friend isn’t my old textbooks but Google; everything imaginable has a Wikipedia page or an online community dedicated to it.
And as we all get older and become more entrenched in our day to day lives it becomes harder and harder and more unreasonable to go back to a university (or even community college) and study a subject of interest. First of all, most of us have heavy time constraints due to full time jobs or family commitments. I’m currently finishing up a Master’s program and it has been quite taxing; evening classes, homework, exams, projects… At times the stress of handling the institutional educational requirements (getting good grades, attending meetings, figuring out how to pay for everything) has overshadowed the actual benefit that I’m gaining from what I’m learning. And although I don’t regret going back to school at all, the stress has taken its tole.
In addition to the stress of attending an institution and going through that process, there’s the issue of paying for it all. Even with the limited educational assistance I’ve received from my employer I’ve still managed to add to the family’s student loan debt obligations. My situation is a bit unique; I didn’t exactly apply myself during my undergraduate studies and my GPA reflected that. Because of my substandard GPA, the public schools in my area rejected me because I didn’t fit their stated application requirements.

Although it may seem counter-intuitive, a private school in my area did accept me after an exhaustive screening process and a trial semester and I’ve done my best to make the most of this opportunity, resulting in a graduate GPA significantly higher than my GPA ever was in undergrad. Regardless of the distinctive features of my situation, it’s not uncommon for adults returning to school to incur more debt, adding to the stress of the situation and making the prospect of further education less attractive and more difficult.

Fortunately, we can leverage the power of the internet to further our education while reducing the stress, time commitment, and financial obligation. I’m not talking about online Universities, but rather, Open Courseware Initiatives. One of my favorite blogs and daily reads is The Big Picture and the author recently had a post on Online Ivy League Classes, which I was thrilled to see.

I love the idea of an open-education system. Although they may never replace institutions as far as reputation and research capacity is concerned, I think they’re an excellent resource for anyone wishing to better themselves, particularly those in disadvantaged situations where institutionalized education may not be a viable option.

I’ve been a fan of MIT’s Open Courseware Project for a long time; I’ve often used their Computer Science and Electrical Engineering lectures for my own benefit both with my job and with my Master’s research. MIT has an excellent selection of Economics courses that I’ve browsed and plan on going through their Economics program more extensively at a later date.

If you haven’t already, I suggest you take a look at both Barry Ritholtz’s post at The Big Picture on Online Ivy League Economics courses and MIT’s OCW. The internet offers a vast number of resources in every topic imaginable, particularly I’ve found with personal finance and economics.

Readers: What are your thoughts on online educational resources? Has anyone used these resources before and found them helpful? Are there any other online resources that anyone has used before?

-Michael
Twitter: @michael_dink
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