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The pipeline's paradox
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June 9, 1998: 2:49 p.m. ET
The broader market has cooled, putting the IPO aftermarket on the skids
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SAN FRANCISCO (The Red Herring) - In a bull market, everyone wants in on the action. So, conversely, in a down market, everyone should run for cover. Right? Wrong.
Four high-tech companies in the last week have filed to float initial public offerings. "All full of hopes, dreams and expectations," says John Fitzgibbon, Editor of the IPO Reporter newsletter.
With Datalink, 24/7 Media, Cyberian Outpost, and Maxtor all entering the IPO pipeline in the same week, technology investors should have a field day deciding who will make the grade and who won't.
Does this make sense?
Normally, a healthy number of offerings in registration would indicate a healthy edge to the broader market. But in the market's recent choppy trading, both the Dow and Nasdaq have shown signs of faltering, with the IPO market bearing more than its share of investor disinterest.
According to Fitzgibbon, on April 23, 34 percent of IPOs filed since January 1 were trading solidly above their offer price. But as of June 5, that number had fallen to 13 percent. That's quite a correction.
"It's a paradox," says Randall Roth, analyst with the Renaissance IPO Plus Fund. "What's happening is that everyone is rushing to get these things out the door, instead of keeping them on their books." While Roth notes that there is often a lag between when a company is filing with the SEC in response to a good IPO market and a market's downturn while they are in registration, he speculates that many companies are now using reverse psychology. "A lot of companies will file in this market's situation because of the weakness, and are thinking that by filing now, the market might recover by the time it will price."
The limit to repeat business
Datalink is one of the technology companies hoping for a late-summer rally.
The data storage and access firm has filed for a $26 million initial public offering which should emerge out of registration in 2 to 3 months, perhaps just in time for the IPO market to get back on its feet. At 2.6 million shares, it is a relatively small offering, but Datalink seems to be hoping its big-name customers --including Boeing, NASA and American Express -- and its use of high-end access equipment, will be enough to generate significant interest from the public.
Datalink competitors IBM, Compaq, Hewlett-Packard and Sun Microsystems can more easily adjust to changing markets given their more flexible marketing strategies and resources, and Datalink's relative immobility could become a big drawback in an outsourcing market.
Datalink also claims that its competitive advantage lies in its excellent service and history of repeat business. The company asserts that 77 percent of its net sales in the last three years have been to repeat customers. But Francis Gaskins, Editor of Gaskins IPO Desktop doesn't necessarily see that as a positive.
"They need to grow their customer base," says Gaskins. "They had a nice compound growth rate until you compare the March 1998 quarter with the March 1997 quarter. March 1998 sales are flat with the year-ago quarter. That's not a good sign in an intensely competitive industry."
As the deal goes through, Datalink is looking into acquiring Direct Connect Systems as part of its expansion strategy. Meanwhile, Datalink's CEO Greg Meland is planning to reduce his stake from 50 percent to 35 percent of the 9.5 million post-offering shares. Lead underwriters Needham & Co., Cruttenden Roth, and John J. Kinnard & Co. will sell shares at a proposed offer price of $9 to $11.
Same principle different name
Of the other three companies filing for IPOs last week, Cyberian Outpost and 24/7, each has a competitor -- Software.net and Netgravity respectively -- preparing to go public over the next two weeks. The performance of these two upcoming offerings might provide an early indication for how their own IPOs will be received further down the road.
"I'm curious to see how the market reacts to Netgravity," said Ryan Jacob, director of research for the IPO Value Monitor. "Depending on how it does, it could have some effect on 24/7." Jacob indicated that the same relationship might also be true for Software.net and Cyberian Outpost. Like Netgravity, 24/7 Media is in the advertising software business, while Cyberian Outpost is an online retailer of computer equipment whose model is similar to Software.net's for selling software.
Maxtor, Inc., which is owned by Hyundai Electronics America, a subsidiary of South Korean industrial group Hyundai, will be offering the largest deal of all four companies -- estimated at more than $500 million -- but one which has also attracted the greatest amount of skepticism.
Maxtor is a leading maker of 3.5" hard disk drives for PCs, with about 13 percent of the competitive market. But with a current-assets-to-liabilities ratio of less than one, and long-term debt of $220 million, Maxtor is in weak financial shape, and its corporate parent is not faring much better, as Hyundai suffers the woes of the Asian economy.
Although Maxtor's sales have been improving of late, rising to $549.5 million for the March quarter from $247 million a year ago, the company still has an accumulated deficit of more than $780 million. More troubling, perhaps, is that the company currently competes only in the desktop PC market, which has been undergoing a period of softness, and the company warns that any prolonged weakness in this market will materially impact Maxtor's business.
Gaskins sees Maxtor's spin-off as merely a not-so-well-concealed attempt by Hyundai to raise cash to bail out its own debt needs. "They can't get it from the venture capitalists, so they have to get it from somewhere," says the IPO guru.
While the same could probably be said for all four of these companies, it is unique to find such a robust number of filings at the same time investors seem to be taking greater care in choosing which IPOs will make the grade.
Datalink Corp.
1997 Sales ($ mil.): 71.3
1997 Income ($ mil.): 6.1
Filing date: June 3, 1998
Expected IPO date: TBA
Shares offered (mil.): 2.6
Post-offering shares (mil.): 9.5
Offering amt. ($ mil.): 26.0
Proposed offer price: $9.00 to $11.00
Proposed Symbol: DTLK
Proposed Exchange: Nasdaq
Underwriters: Needham & Company, Inc.; Cruttenden Roth, Incorporated; John G. Kinnard & Company, Inc.
Cyberian Outpost
1998 Sales ($ mil.): 22.7
1998 Income ($ mil.): (7.1)
Filing date: June 2, 1998
Expected IPO date: TBA
Offering amt. ($ mil.): 63.3
Proposed offer price: TBA
Proposed Symbol: COOL
Proposed Exchange: Nasdaq
Underwriters: BT Alex. Brown; NationsBanc Montgomery Securities LLC; Dain Rauscher Wessels
24/7 Media Inc.
1997 Income (mil.): $(5.3)
1997 Sales (mil.): $3.1
Filing date: June 4, 1998
Expected IPO date: TBA
Offering amount (mil.): $46.0
Proposed ticker: TFSM
Exchange: Nasdaq
Underwriters: Merrill Lynch & Co.; Allen & Company Incorporated; J.P. Morgan & Co.
Maxtor Inc.
1997 Income (mil.): $(109.9)
1997 Sales (mil.): $1,424.3
Expected IPO date: TBA
Shares offered (mil.): TBA
Offering amount (mil.): $575.0
Proposed offer price: TBA
Proposed Symbol: TBA
Proposed Exchange: Nasdaq
Underwriters: Salomon Smith Barney; Hambrecht & Quist; Lehman Brothers; Merrill Lynch & Co.; NationsBanc, Montgomery Securities LLC
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