The most anticipated technology initial public offering of 2015 is in the books and Square finished its first day of trading on the New York Stock Exchange up more than 45% from its $9 per share IPO price. In the aftermath, there will be plenty of talk of unicorns, ratchets and the disparity between public and private valuations. But who actually came out on top and who was hurt in the San Francisco-based company’s IPO? FORBES assesses the winners and losers from Square’s big day.
Jack Dorsey turned 39 on Thursday, the day of the IPO, and now holds the unique position of being CEO at two multibillion-dollar public companies. While most wouldn’t envy his task, Dorsey seems to relish the fishbowl-like scrutiny that comes with running both consumer-facing tech firms, Square and Twitter. Yes, his net worth fell $730 million because Square went public below its last private valuation, but Dorsey has never been in it solely for the money. He has returned shares to his companies in the past, most recently handing one-third of his Twitter stake back to the social media firm in October. In the Square IPO prospectus, Dorsey committed to give 40 million shares, or about 10% of the company, to a foundation. He’s also not struggling at the moment with a net worth of more than $1.4 billion. It remains to be seen if he can manage the dual-CEO roles, but Dorsey has established himself as one of the leading entrepreneurs of his generation and he’s not even 40.
Square CEO Jack Dorsey receives kiss from his mother, Marcia Dorsey, outside the NYSE (Click Image To Enlarge)
Square CEO Jack Dorsey poses for photo outside NYSE (Click Image To Enlarge)
Square CEO Jack Dorsey with co-founder Jim McKelvey (Click Image To Enlarge)
With Square pricing its offering well below its expected range at $9 per share, Square merchants, some of whom were able to buy in at the IPO price, benefited greatly. Through a special program, certain merchants who use Square products were able to purchase some of the 1.35 million shares that were donated by Dorsey. Dorsey told FORBES on Thursday.
“Sellers want to own Square and be investors in our success.”
It was also a win for retail investors, who were in a frenzy as the stock shot up in its first hour of trading. More than 47 million shares exchanged hands on the first day of trading, according to FactSet data, and those who bought early and held on through Thursday were able to feel the full extent of the stock’s pop. Among those investors was Tod Wilson, a pie maker whose company was used as an example of a successful Square business in IPO filings and on the company’s roadshow video. Wilson “missed the program” that allowed him to buy shares at the IPO price, but bought in on Thursday and is still holding that stock.
As an investor in the company’s late-stage Series E round, Goldman Sachs and other participants in that financing were protected by a provision known as a “ratchet.” While those investors bought shares at a price of $15.46, the company guaranteed them at least a 20% return on that investment. In order to make that happen when it priced its shares at $9 each, Square was required to issue an estimated 10.3 million shares–valued at nearly $93 million at the IPO price–to those investors. Those shares were worth a collective $135 million when the market closed on Thursday.
Goldman Sachs saw gains on Thursday as an investor, but as underwriters along with Morgan Stanley MS -3.03% and JP Morgan overseeing the IPO process, it certainly left money on the table for its client, Square. This of course opens up a debate as to what constitutes a “good IPO” with companies weighing the benefits of a first-day stock pop to drive investor interest versus taking in as much cash as possible. Publicly bankers often say pricing an IPO is more an art than a science, with the general understanding that a 15%-20% first-day trading pop is optimal in terms of maximizing proceeds and allowing buyers to feel like they got a deal. Had the underwriters priced Square’s shares at $12–in the middle of its suggested $11 to $13 range–the company could have taken home an additional $77 million in cash. Some argued that because of Goldman’s role as a Series E investor and its ratchet preference, the bank may have had an incentive to price the IPO as low as possible.
While investors with ratchets benefited from the provision, Square’s employees did not. Because the company was obligated to issue more stock to those Series E investors, the entire share pool was diluted. At a Silicon Valley tech firm, where employees are often attracted to companies based on the type of equity packages they receive, that won’t sit well with a mid-level engineer or designer who may have given up a cushy job at Google GOOGL +2.32% for Square and its equity. Come the expiration of the lockup period, which prevents investors and those inside the company from selling, employees may find themselves in a tougher market if they want to offload their shares.
Perhaps one of the more curious things on Square’s IPO prospectus was the disclosure of two unnamed investors who bought $30 million worth of Series E shares last month. The company said those backers included one existing investor and one new investor, though a Square spokesperson declined to say who they were. Whoever they were, they bought a total of 1.9 million shares at a price of $15.46 each and waived their right to maintain a ratchet. With shares closing at $13.07 apiece today, that holding is still underwater to the tune of about $4.5 million.
COMMENTARY: Square, known for its small, white readers that plug into smartphones and tablets, now has a market value of about $3 billion compared to the $5 billion value implied in its fundraising a year ago.
The steep markdown could foreshadow trouble ahead for venture capitalists and other investors who have been pouring billions of dollars into technology startups in recent years.
The IPO discount also leaves Square with less money to draw upon as it strives to turn a profit for the first time in its six-year history. Before paying its investment bankers and other fees, Square raised $231 million in the IPO, instead of the $282 million to $346 million that the San Francisco company had been seeking.
According to Square's S-1 filing, which I described in detail in a blog post dated October 16, 2015, a total of 185,361,631 class B shares are held by outside investors, insiders and directors. The percentage of total class B shares held by major shareholders include Jack Dorsey (24.4%), Khosla Ventures (17.3%) and Director James McKelvey (9.4%).
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Square had to discount its IPO shares at the $9 per share late Wednesday, below a target of $11 to $13 that Square set the week before. The price is 42 percent below the $15.46-per-share price that Square fetched a year ago when it raised $180 million while it was still a privately held company. In my opinion, this was just a strategy by the IPO underwriters Goldman Sachs, JP Morgan and Morgan Stanley to line their pockets at the expense of Square. Shame on Jack Dorsey for letting them get away with this. Don't let Jack Dorsey ever give you advice on bluffing while playing poker. He left a lot of money on the table
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The initial public offering of Square was supposed to be a sign of doom for unicorns (startups with pre-IPO market values of $1 billion or more), a proof that you can't make money investing in pre-IPO tech companies any more. On the other hand, here is how much money Square's investors have actually made, by funding round:
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Those are paper profits, based on Square's $9 per share initial public offering price, and on a $13.50 per share trading price as of about 11 a.m. Here they are in table form:
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If you invested in Square at any point, from its Series A round in 2009 through its IPO last night, you've made at least a 20 percent return on your money as of this morning, or about a 7 percent compound annual growth rate. And if you got in early enough, or late enough, your returns were way better. In aggregate, Square's investors have tripled their money; its pre-IPO venture capital investors have almost quadrupled theirs. Everyone can breathe easy now! Unicorns are fine again.
Obviously there were some bumps along the way. Thursday's IPO priced below the Series D round, leaving the Series D investors with a paper loss. It priced even farther below the Series E round, but the Series E investors had negotiated for themselves a "ratchet," in which Square essentially guaranteed them a 20 percent return in the IPO. Their shares were worth only about $87 million at the IPO price, so Square had to give them another 10.3 million shares -- worth another $93 million -- to make up for it.
WHAT TO MAKE OUT OF SQUARE'S IPO
The stock market guru Ravi Bala of Seeking Alpha really know how to sense out of the Square IPO. Ravi took the time to compare the financials for Square Inc and Twitter, and I agree with his conclusions. Seeking Alpha says.
"Square (NYSE:SQ), like most IPOs, runs on stories. How an unprofitable company got into the market is beyond me. There are parallels between Dorsey's new company and his older one, Twitter (NYSE:TWTR), that makes me believe that Square is on track to cause major headaches to investors who will focus on the future and not pay attention to current results.
Square was founded in 2009 and just went public. It is approximately six years in business and is unprofitable. Twitter was founded in 2006 and went public in 2013. Interestingly, both went public in November in their respective years. Both companies are very young. Just as Twitter has shown, I would say that Square needed to stay private for a bit longer until it showed signs of profitability before entering the public markets.
Take a look at the two financials below. The first table is Square and the second is Twitter. Notice the general similarities. Net income and cash flows are negative despite increasing revenues. What struck me as interesting is that both companies had increasing revenues and increasing negative free cash flow in their respective years as they finished their IPOs. Everyone in the investment world touts the philosophy of Warren Buffett, but no one seems to apply his sage wisdom. You just do not invest in companies that have not proven themselves out. Like Twitter, Square is still trying to prove its concept out. There is no moat established. For GARP investors, what did Peter Lynch say? He said that you need to see a tendency in growing earnings. Square shows the complete opposite.
Square Inc Financials
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Here is where things get much more interesting. Below I extend the table and show you how worse off Twitter has been since it went public. Revenues have been increasing, but it has become very obvious that the net income and free cash flow numbers are accelerating in the wrong direction. I do not want to draw any conclusions but based on the youth of Square and the fact that it may be losing one of its biggest customers, Starbucks, I think Twitter's performance foreshadows Square's future.
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I took a look at both companies' S-1 filings to see if there were any similarities. Four of the banks who underwrote Twitter's IPO underwrote Square's. I'm very curious to know why these banks would want Square to go public given that its financials going into the IPO were much worse off than Twitter's. It may not mean much to some people, but I would not trust their judgment this time for their poor judgment last time."
SQUARE IS A LOSER IN SHEEPS CLOTHING
I don't think that Ravi Bala is not too far off in his assessment of the Square IPO. I don't think we will have to wait more than a year or two to realize that the Square IPO never should've happened. There is just too much shit going on right now that is likely to affect stock prices in the immediate future, not including rising interest rates, ISIS terrorism, Square's unproven and unprofitable business model, geo/political problems like a possible confrontations with China, North Korea and Iran. When you add the weakness in the IPO market, the underwriters rushing (more like RUNNING) to get this IPO in the books before the end of the year before stocks lost their luster, it would not surprise me if there is a shareholders revolt somewhere along the way, when this thing collapses due to some or all of the above.
I keep reading that Jack Dorsey was the only logical choice that Twitter had, so they kept him to serve as permament CEO. It's quite a challenge to fix the problems of a bad and underperforming company, let alone two simultaneously. If you ask me, I think Twitter's board of directors should've hired Snoop Dogg. He offered to serve as CEO, and I think they should take him up on it.
In my blog post (see above) about Square's IPO filing, I made the following comments about Square's IPO which you should note.
"I am always concerned when a startup that has never generated a profit since it began operations, that startup competes in a mature and highly competitive industry (credit card payments) and that industry is dominated by larger and more established players, and that startup is led by a CEO (Jack Dorsey) who splits time between two troubled companies (Twitter and Square), and then that CEO thinks its time for an intial public offering when stock market indicators say otherwise, then it makes me wonder about the wisdom of that CEO. This is the case with Square, Inc. and CEO Jack Dorsey.
Jack Dorsey has his work cut out for him, not only with Square, but especially with Twitter, a social network which has never generated a profit, has lost numerous executives since the start of this year, whose monthly active users has stalled, and advertisers are questioning Twitter's viability as an advertising platform.
Dorsey recently announced that Twitter would layoff about 10% of its workforce or about 336 employees, mostly from its engineering staff. This will cost the company about $20 million in severance payments and other separation entitlements. Even after you factor the savings from in wages, payroll taxes and employee benefits due to these layoffs, this will not make a substantial dent in their operating losses to date. This makes you wonder if Square will require some staff pruning after the IPO.
Even if you adjust Square's earnings for the money that it is losing from the Starbucks deal, the company is still losing a substantial amount of money. Unfortunately, Square will continue to lose money off the Starbucks deal until October 2016."
Courtesy of an article dated November 19, 2015 appearing in Forbes, an article dated November 20, 2015 appearing in Bloomberg, an article dated November 19, 2015 appearing in Forbes, an article dated November 19, 2015 appearing in Seattle Times, an article dated November 19, 2015 appearing in The Wall Street Journal, an article dated November 19, 2015 appearing in QZ.com, an article dated November 19, 2015 appearing in Newsweek, and an article dated November 19, 2015 appeariong in ABC News