Initial Opportunities

You've read about them, those eagerly awaited initial public offerings (IPOs) of shares in hotshot dotcom companies. You know, the ones that zoom up in price on the first day that they list and sometimes continue to soar as the weeks and months tick by. Trouble was, retail investors rarely had an opportunity to own newly minted shares until they were listed and no longer available at bargain prices. That's because it's inconvenient and uneconomical for investment banks to deal with thousands of individuals when they can sell large tranches to a handful of institutional investors.

But the exclusive world of IPOs is now under siege by the masses, and the Internet is the battering ram. The Web allows disparate individual investors to band together and buy initial offerings as a bloc. Online providers of IPOs are springing up in Europe, and at least two big American players will soon open their virtual doors here, as well. One European provider, Sweden's EPO.com, estimates that 40% of IPO shares in Europe will go to retail investors within two years. "It is one of the most exciting revolutions in the world of finance today," says Nick Bullman, managing director of E*Trade International Capital, the corporate-finance arm of U.S. online broker E*Trade Group. His firm expects to begin offering IPOs here this summer. "It is changing the way IPOs are distributed and democratizing the process."

Certainly the appeal of IPOs is understandable particularly when tech companies are involved. The IPO market is where some of the quickest, fattest profits can be made though, as events of the past few months have reminded all but the most oblivious investors, stunning losses can also occur just as rapidly. Nonetheless, an analysis of 270 European IPOs by eFinancial News showed that shares of new-economy companies that floated last year increased in price an average of nearly 151% by the end of January, while those of traditional companies increased in price an average of only 9.8%.

Not surprisingly, Web providers are signing up would-be investors with alacrity. EPO.com, which recently agreed to merge with German online investment bank Virtuelles Emissionshaus, now has 140,000 subscribers in Sweden, Germany and the U.K., and is adding 1,000 a day. Britain's Issues Direct has 60,000 subscribers and is adding about 350 a day.

Online IPOs not only benefit investors, but issuers as well. Spreading shares more evenly among private and institutional investors gives a newly floated public company better liquidity in its early days, when trading can be thin. "A wide and diverse investor base is essential," says Hans Stocker, director of online services at Durlacher, a London-based investment bank that specializes in tech companies and recently launched its own IPO site, Nothing-ventured.com. Moreover, using the Internet to gauge investor enthusiasm for a flotation helps to more accurately set an issue price. Bullman says it's similar to how the original equity markets worked, when exchange members met at coffeehouses to reach a consensus on prices.

Ranjit Moses, head of marketing at Wit Capital Europe, an arm of American online investment bank, Wit Capital Group, claims issuers also benefit from exposure to tens of thousands of potential investors. "We start building their brands even before they are actually public," says Moses. Issuers, especially tech-related companies, are easily sold on the Internet's advantages. Delphi Private Placement Group, a venture-capital spin-off of Stockholm's Delphi Capital, used EPO.com last November to issue 437,000 new shares to 547 individuals, though it won't publicly list for another two years. "It was a quick and easy thing to do because EPO.com reaches a lot of people," says Anders Rabbe, president of the group.

Web IPO sites earn revenues from charging fees to the issuers. But otherwise, their business models vary. Some, like EPO.com, are entirely digitalized. Subscribers do everything online: have their requisite bank or brokerage account debited, receive information, including prospectuses and alerts, apply for shares, and receive e-mail verification. EPO.com doesn't act as a lead bank, but will always be part of the syndicate of banks and brokerages receiving a guaranteed allocation of shares. That's a key selling point, since issues often are oversubscribed.

Issues Direct acts mainly as an online distributor for the large investment banks. Subscribers register and receive prospectuses online. But they must download application forms, fill them out and mail them with a check to the applicable brokerage or bank. Nothing-ventured.com, which launched in February and has 45,000 subscribers, is also entirely electronic, but features only those companies brought to market by parent company, Durlacher. "That gives them a certain cachet," Stocker explains. "It's no guarantee, but clients know they have Durlacher's expertise and knowledge behind them."

Given the potential of the retail online IPO market, the large investment banks may yet try muscling in on the action. The Internet providers don't seem worried. It would be difficult for the big banks to offer the same services for free to individuals for which they charge institutional clients top dollar. Also, traditional investment banks don't fully understand the Web, their online counterparts claim. Bullman points to the problems over share allocations that dogged the recent IPO of Lastminute.com, which was led by Morgan Stanley Dean Witter, and the pricing questions of the World Online International float, led by Goldman Sachs and ABN Amro. "Those are two examples of traditional companies screwing up an online offering," he says.

They are also object lessons in IPO investing, underscoring that even the most popular flotations aren't risk-free. Since their March floats, Lastminute.com and WOL's share prices have plummeted about 50% and 66% respectively from their initial offer prices. The current equity markets turmoil notwithstanding, the new economy isn't a fad and IPOs from well-designed, well-managed tech companies may often pay off handsomely. Figuring which companies fit that bill, however, will never be easy. The Internet is giving neophyte investors in IPOs myriad new opportunities, but they'll be wise to remember a pre-digital age adage: Caveat emptor.