Competitive Intelligence

Google's IPO: Trouble Ahead?

Not only did Google illegally sell shares...

Google Inc. may have illegally issued more than 23 million shares of its stock to hundreds of employees and consultants, injecting an unexpected legal risk into the online search engine leader's highly anticipated IPO.

The Mountain View-based company disclosed the possible violations Wednesday in a prospectus offering to buy back the affected shares and outstanding stock options for a total of $25.9 million, including interest payments.

... and more than one curmudgeon thinks we should just boycott it altogether, as it's likely to wreck a perfectly good company:

The lead Googlians say they're doing the IPO so investors can cash out, but as soon as that happens they will run the company without regard to the quarterly numbers that made Wall Street's heart go pitter-patter.

So Google will be just like a private company that isn't. And the people who buy the 9 percent of Google that's hitting the public market will be treated like … well, it could be like they don't own anything! That should make for really fun annual meetings.

For more than $100 a share, I say we should let Google keep its overpriced stock. Mark my words: Google is the Netscape of the new millennium. Well, the fall won't be so dramatic—Microsoft only sort of wants Google's head on a stick—but the selling shareholders are getting out while the getting's good. It's possible all the "odd" aspects of the stock offering are just PR stunts intended to more efficiently part fools from their money.

Something else I've noticed is the closer we get to the Google IPO the less useful Google has become. The bad guys have clearly learned to spoof the search engine, so much so that sometimes the first page or two of results are liberally salted with pages from other search engines claiming to be search results. It's also not as easy to find what I want on Google. I can't say why, but I am starting to look at using multiple search engines again. Maybe you really can't decide the relevance of a particular page based on how many other pages are linked to it.

Even the previously useful Google advertising of old now seems, likely as not, to be fill-in-the-customers'-search-term-here ads from eBay and other vendors who really don't have much to offer me.

Unless Google can do something quick to dramatically improve the quality of the results it presents, the search engine is in real trouble. But not to worry—most people won't pay attention during the IPO hype-storm, and no one will understand the real mess Google seems to be in until after a cool $3 billion has left investors' pockets.

Nice work if you can get it. And speaking of work, for the past few years the best and the brightest haven't been going to Microsoft or to other startups (what other startups?) but to Google, where the promise of riches awaited. After the IPO, Google will become a company of haves—new houses, new cars, early retirements—and have-nots—everyone else and most future hires.

That sort of environment is not particularly conducive to cooperation and harmony. I believe it was Apple where at one point the old-timers took to wearing buttons reading "FUIFV," as in "f-you-I'm-fully-vested." I am not sure how Google dealt with this in advance, but many IPOs have littered companies with perpetual underlings suddenly worth much more than their more recently hired bosses. Like I said, a post-IPO company can be a really interesting place to work.

Here's how I see the future: Google's star may continue to rise a bit, but then reality and the reality of being No. 1 and being everyone's target will hit home. Google will start to sink a bit—perhaps a big bit—just as Microsoft's new offering appears on the search scene. By that time, other search engines may have solved their problems, and customers will have noticed that Google isn't nearly as wonderful as it used to be. It's also possible that some third party will out-Google Google and come up with a better search engine, just as Google bested AltaVista (remember them?).

This could mean Google will be a short-lived phenomenon, at least as the Holy Grail of searching that it clearly used to be. Every day I use Google—and I do use it every day—it seems to be less useful to me than the day before.

At least it's doing good things for Silicon Valley...

Unlike Netscape, which went public to almost as much fanfare and celebration nine years ago, Google isn't being brought to a stock market unfamiliar with the Internet or the valley's technological wizardry. Silicon Valley has a history with investors, now. And for all the good—in terms of innovation and jobs—that has been created in the valley, there's some bad feeling, too.

That bad feeling—the slight aftertaste of being taken for a ride—is one reason politicians lump the valley with Enron when it comes to stock options. And it's worth remembering that sentiment when it comes time to consider Google's sale. Google has. The revised filing the company made with the Securities and Exchange Commission includes a section decrying the need to treat option grants as expenses.

So what's the most unusual thing about the Google offering? Unlike traditional stock offerings, Google's early shareholders—its backers, executives and other friends of the firm—can and are selling a great deal of stock. All told, those insiders are offering almost 10.5 million share of stock for sale at between $108 and $135 a share.

The company is selling a bit more, just about 14 million shares. A lot of rich people who acquired their stock at pennies per share are going to be even wealthier. And they are getting that way in a process that's being wildly (and correctly) described as being more open—and therefore more honest—than what's gone on before.

That's important. Because offerings like Google's have a way of starting trends. That could mean more "dutch auctions"—where the final price is set by the bidders—as tech companies try to follow in Google's shoes and do an end-run around the banking establishment and show shareholders the wonders of a disintermediated stock market. Clearly that's what Google founders Larry Page and Sergey Brin say as much in their "owners' manual" to shareholders.

And it might even change the way IPOs are done from here on out - which is good news for investors, but really bad news for underwriters and most other Wall Street fat cats:

In the dot-com era, IPOs were run as much for the benefit of the Wall Street underwriters as for the companies. Wall Street firms would set a price at which a company would sell shares to the broad investing public and distribute the shares. In practice, underwriters would dole out many shares to favored executives at client companies, or to hedge funds and mutual funds that threw a lot of trading business to the underwriters. By setting the price for dot-com stocks artificially low and by deciding who could get in on the IPO at the artificially low price, underwriters had a license to make their friends and clients rich in a matter of minutes, when frantic individual investors bid up the shares. (Before Eliot Spitzer came along, these conflicts of interest were known in Manhattan as "synergies.") In exchange for suppressing the offering price and thus depriving their client of needed capital, underwriters in most dot-com IPOs typically helped themselves to a fee totaling 7 percent of the offering.

But Google has largely cut out the underwriters. Its IPO is being structured as a Dutch auction. Any investor can submit a bid for as few as five shares. The underwriters will tally all the bids. They'll start at the top—$150, $200, whatever—and work their way down until all the shares are spoken for. That price then becomes the clearing price, which Google intends to use as the IPO price. There's no penalty for bidding high—if the clearing price is $140 and you bid $200 you'll pay $140. Those who bid under the clearing price get nothing.

Google's IPO price will thus be set naturally by all interested market participants, not artificially by underwriters. Google—and not well-connected investors—will receive the full benefit of investors' enthusiasm for the stock. To add insult to the injury of the chastened investment bankers, Google has decreed that it'll only pay a 3 percent underwriting fee.

In other words, Google has inverted the process. Almost by definition, the buying enthusiasm will peak before the stock starts trading. And today, you and I have the same chance as Warren Buffett, or Ford CEO William Ford, or a hedge fund manager, of getting in on Google's IPO. For precisely that reason Warren Buffett and Bill Ford and hedge fund managers probably won't be bidding. They have no angle, no leg up on the rest of us chumps.

And so most professional investors will likely boycott the offering. This is one of the reasons that TheStreet.com's James Cramer, a brilliant commentator and trader (but not one given to irony), has already dubbed the Google deal a fiasco. As Cramer implies, giving the stiff-arm to the professional investors who comprise a significant majority of the market, and who constantly have money to put to work, isn't an intelligent long-term investor-relations strategy. Professional investors in effect become salesmen for a company's stock. Selling stock without them is almost like Coca-Cola deciding to eschew the wholesale market (McDonald's, Marriott, college dormitories) and focus exclusively on selling six-packs to individual customers.

Google's IPO ensures that individual investors are treated fairly, as was frequently not the case in the 1990s. But it won't ensure that they'll make money. In fact, Google explicitly warns those seeking a quick buck not to bother: "We caution you not to submit a bid in the auction process for our offering unless you are willing to take the risk that our stock price could decline significantly." In fact, because of the auction process, the individual investors who absolutely positively must have this stock on the day of its offering may very well be buying at the top. At least some things never change.

- Arik