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IP-Open Sesame – Alibaba Survey Results
Summary: The upcoming initial public offering of Alibaba Group is a landmark capital markets transaction for many reasons. Yes, one is its size – market reports put the deal at $15 billion or more, in sight of the record for a U.S. listed IPO. And, of course, there is the company’s well-documented profitability and market position in Chinese e-commerce. But what makes this deal truly special is the company’s unique chance to significantly increase investor demand for Chinese equities. We recently surveyed over 300 institutional investors, brokers, and other market participants on their impressions of the Alibaba IPO, and the responses bring this point home. They believe by a wide margin that the company has good long term investment merit, will increase in value right after the IPO, and that U.S. market structure can handle the frantic first few days of trading. And yet half say they will not buy the stock, either in the IPO or aftermarket, in many cases because they simply do not buy Chinese stocks. To maximize the illusion of scarcity – the central challenge of marketing any large equity transaction – the company will have to appeal to this new audience of investors. And that means selling them on China, and Chinese stocks, more than just Alibaba.
The 1956 initial public offering of The Ford Motor Company is still one of the most storied transactions in Wall Street history. Henry Ford had famously never wanted to sell ownership in his namesake company, largely out of an abundance of mistrust in capital markets. Before his death he created the Ford Foundation as a charitable institution to hold shares in the company and split ownership into 2 classes of stock. One, with larger voting rights, went to members of the Ford family. The other went to the Foundation. After several years – and Ford’s death in 1947 – this organization decided it wanted more control over its investments and needed a public offering to facilitate the orderly sale of Ford Stock.
The Ford family and the Foundation chose Goldman Sachs to lead the IPO. A young capital markets officer at the firm named John Whitehead was in charge of keeping track of the orders for the deal. Whitehead was a graduate of the Harvard Business School as well as a World War II D-Day veteran. His challenge: the Ford family didn’t want any paper trail of who was buying the shares on the IPO. Yes, times were different then. So he memorized every order – perfectly. That cemented an already sterling reputation, and he eventually rose to Co-Chairman and Co-Senior Partner at the firm.
Large initial public offerings draw an inordinate amount of attention from capital markets, and there isn’t likely to be a larger transaction this year than the Alibaba IPO. The Chinese online company is a bit like a mashup of Amazon, eBay and Paypal, but with some impressive profitability measures that put many a well-regarded U.S. tech company to shame. Early reports put the total value of the offering at $15 billion or higher, within reach of the title of “Biggest U.S. Listed IPO of All-Time”.
To get an early read of how investors and other institutional market participants are evaluating this mega-IPO, we surveyed them on a variety of issues. We got a total of 320 responses, with 149 from asset managers, 90 from brokers/bankers, and the balance from other capital markets professionals. Here is a summary of the questions, and our findings:
- Listing venue. Our respondents agreed with Alibaba’s decision to choose the NYSE, with 43% choosing this exchange. The NASDAQ came in second at 32%. “No Preference” got 20% of the vote, which essentially means that either the NASDAQ or the NYSE would have been acceptable choices to our survey participants. Perhaps most impressive – BATS got 15 votes.
- Market Structure. There will certainly be very high levels of trading in Alibaba on the first few days post-IPO. We were curious to see if market participants were confident that current equity market structure will be able to handle the volume. By a wide margin they said “Yes”. Only 8% of our respondents indicated that they were “Not Confident” or “Not at All Confident” that trading would go smoothly. Fully 77% said they were “Confident” or “Very Confident” that current market structure would be able to support the expected high volumes.
- IPO Discount. In general, underwriters try to price IPOs so that they will appreciate modestly in the first month of trading. The amount of this increase varies through the capital markets cycle, but is typically around 10%. This is not meant to be a guarantee of such a return – history is littered with the debris of busted IPOs. But investors expect that, on average, a newly public equity will increase in price by that 10% over the first 30 days.
For better or worse, our respondents expect more than that from this transaction. Very few – only 12% – expect Alibaba to decline over the first month of trading. A further 37% expect it to rise by the traditional 0-10% over the same period. More than half – 51% – expect it will appreciate by over 10%. These expectations might stem from expectations that Alibaba will be a hot deal, and fair enough if it is. But it also seems to point to a price-sensitive base of potential buyers, who will stick to their guns if underwriters try to increase the range.
- Long Term Investment Potential. We asked our survey respondents to rate Albaba’s long term (3-5 year) investment potential. The results were very positive, with 15% rating it “Very Good” and 49% assessing Alibaba’s investment case as “Good”. Only 5% of our survey takers thought Alibaba’s long term investment potential was “Poor” or “Very Poor”.
- Buying intentions on the IPO or afterwards. With all this positive color from our survey panel, you’d think that an overwhelming percentage of them are ready to step up and place an order when the underwriters call in a few weeks. Nope – not even close. Fully 57% of our respondents simply answered “No” when we asked “Do you plan to buy shares in Alibaba?”
When we cut through the data, the reason for this refusal becomes clear. We looked at only our institutional buyside votes – the big money that will actually price this deal – and broke up their responses to the buying intentions question by whether or not they already invested in Chinese companies. Fully 69% do not, and their buying intention rate was only 37%. Barely a third of this population, in other words. Conversely, of the 31% that did already invest in Chinese equities, 56% said they planned to buy.
This data, and especially the last issue, point to what will make the Alibaba IPO every bit as special as that Ford transaction back in 1956. In this case, there is a broad confidence among our respondents that Alibaba is winner over both the short (one month) and long term (3-5 years). There is little concern over a market structure meltdown to get in the way of a good performance out of the box. And yet more than half of our panel simply does not plan to buy.
Essentially, the Alibaba IPO isn’t about the company; it is about investing in Chinese equities. Those investors who already do so are likely to buy the deal. And those that do not… Well, that’s the population that the company and its underwriters will have to convince. Let’s not forget that this will be a very large transaction, and the magic behind any such offering is something called “The Illusion of Scarcity”. Buyers must be convinced that there is strong demand for the deal. The more potential investors there are the easier that task becomes.
Yes, there are challenges to expanding the base of potential buyers. The company has a somewhat opaque structure, and investors don’t have all the same protections as a typical equity investment. And, if you want to delve into the history books, Ford had some of the same problems when it came public back in 1956. Looking at the overwhelmingly positive responses to our survey, we see a watershed moment for Chinese equities with the Alibaba IPO. If more traditional non-Chinese investors do not participate on this deal, it is unlikely another more compelling company is going to come along any time soon. If not now, when?