Monthly Discussion



What Kind of "Species" Are IPOs?


Initial Pubic Offerings (IPOs) seem to have been stubbornly gaining importance recently. Based on after-market performance the number of shares offered during 1999 increased by a factor of 1.6 while the dollar amount by a factor of 2 compared to those of 1998, which was a year higher than 1997 anyway. Share volume and dollar value are the ingredients that define competitiveness in the stock market. When IPOs secure investors' attention and investors' dollars, they deprive other issues at the stock market from investors' favor. So it is worth examining closer IPOs as a species with an exceptional performance.

The first impression (and popular belief) is that the number of IPOs has increased dramatically recently. But as it often happens with first impressions, it is wrong. It is true that there were 559 IPOs in 1999 compared to 349 in 1998, but there were 474 in 1997, and the last 2-year average annual number has actually decreased compared to 1997.

On a longer time frame, increase in the number of IPOs reflects on the number of issues listed at the NYSE. Again the evidence is against such an increase.


Exhibit 3. The evolution of the number of common stocks listed at the NYSE has gone through 3 well-defined natural-growth steps since 1950.

Sustained natural growth consists of a chain of S-shaped steps. The reader can find many such examples in Predictions and in An S-Shaped Trail to Wall Street. IPO history depicts such a stepwise pattern, as we see in Exhibit 3. The fractal aspect of S-curves says that small curves are nested into larger ones like Russian dolls. So by zooming back on the above figure, one may expect a single large S-shaped curve to give the overall trend from the early 1950s well into the 21st century. But the detailed picture reveals smaller curves punctuated with flat periods stretching from a few years to more than a decade, for example, between 1973 and 1986. And ahead of lies such a flat period.

Exhibit 3 clearly indicates that the number of issues at the NYSE will not grow for a while and may even decline to some extent. Consequently the number of IPOs can not keep increasing unless issues drop out of the stock market, through company bankruptcies, at an even higher rate. But today's fairly healthy economy can not accommodate an exaggerated bankruptcy rate. So the conclusion is that the annual number of IPOs for year 2000 will go back to and possibly below 460, the last-three-year average.

Nevertheless, there is some substance to all the hype about IPOs. As we mentioned in the beginning, the share volume and the dollars offered follow trends that show no signs of decline. On the contrary, both trends depict exponential growth patterns promising to persist. With the average offered price stable and the number of IPOs non-increasing, the only way these exponential patterns can persist is if the "importance" of the IPOs increases. By importance I mean the size of the company, or its capitalization. It has not been the increasing number of IPOs that has triggered investors' preoccupation with them but the increasing size of the companies that undergo IPOs.


Exhibit 4. The evolution of the capitalization of companies undergoing an IPO.


In conclusion we can say that while the number of IPOs will subside, the amount of dollars offered in these IPOs will keep increasing for at least a year or two. IPO companies will be competitive on the stock-market floor to lure investors' money away from other stocks. Alert brokers who want to stay on the mainstream of the action should set aside increasingly important funds for this "gifted" species while it undergoes its natural growth curve (at least another couple of years).