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Case study: Netscape IPO
Marina Shinon 24 September 2013
Transcript of Case study: Netscape IPO
Netscape's Initial Public Offering
Question 3: Going public
Why, in general, do companies go public? What are the advantages and disadvantages of public
Question 4: The underpricing phenomena
The case points out that the IPO market is sometimes characterised as a “hot issue” market, and
that many IPOs are viewed in retrospect as having been “underpriced.” What might explain these
phenomena? Should the Netscape board be concerned about underpricing? Why or why not?
Question 5: Price justification
Can the recommended offering price of $28 per share for Netscape’s stock be justified? Given the assumptions, and starting from its current sales base of $16.625 million, how fast must Netscape grow on an annual basis over the next ten years to justify a $28 share value?
Question 1: Netscape's current performance
Why has Netscape been so successful to date? What appears to be its strategy? What must be
accomplished if it is to be a highly successful going concern in the long run? How risky is its current
Question 2: Capital needs
Does Netscape need to go public to satisfy its capital needs? What would you estimate might be
the magnitude of its capital needs over the next 3 to 5 years? What sources other than the public
equity market could be tapped to satisfy those needs?
Question 6: Recommendation
As an executive of Netscape, what would you recommend with respect to the proposed offering
price? As an investor in Netscape, what would you recommend? As the manager of an institutional
fund who was willing to buy and hold Netscape’s stock at the originally proposed price of $14 per
share, would you be willing to buy and hold at an initial offering price of $28 per share?
Question 6: Recommendation cont.
Founded in April 1994, Netscape Communications Corporation provided a comprehensive line of integrated applications software for communications and commerce on the internet and private IP networks.
About Netscape II
Credied with launching the dot-com era and technology boom of late 1990s and making the Internet and World Wide Web (WWW) common household terms and services.
Focus of presentation
Presentation of results from analysis of Netscape undergoing the IPO, specifically August 8
Recommendation by Underwriters to increasing offering price by 100%
Netscape’s success may be attributed to many factors:
User-friendly ‘click-and-point' browser
Working on both sides of the market
• Netscape’s strategy: “Give away today, Make money tomorrow”
• The software is distributed for free to anyone who has the technical means of retrieving it electronically
• Netscape makes money by selling server software to companies that wanted marketing access to potential consumers
• Aim is to dominate the market and set the industry standard
Competition and continued success
• The number of competitors in the market has increased as the internet community has increased over time
• Spyglass Inc was one of Netscape’s nearest competitors
• Sought to compete with Netscape by capturing the corporate market
• Increased competition puts Netscape’s current position at risk
• Products and services must continue to satisfy the ever-changing demands of the market
Does Netscape need to go public to satisfy capital needs?
Netscape needs to finance is activities to compete with other competitors
Needs to further develop and consolidate its technology sector to improve their competitiveness
Accumulate its cash reserves for possible mergers and acquisition to further expand its market share and widen its clientele
Use the cash obtained from going public to settle any short term debt obligations
Estimation of capital needs
g = (19 564 223-9 001 566)/(9 001 566) = 1.1734 (4 d.p.)
Cash3 = 9 001 566 x (1 + g)^3 = $92 416 958.83
Cash5 = 9 001 566 x (1 + g)^5 = $436 556 784.4
Thus, the magnitude of its capital needs over the next 3 to 5 years is between
$92 416 958.83 and $436 556 784.4
Sources than the public equity market
- Private equity transaction
- Borrow from bank or raise corporate debt
- Joint venture with a competitor
Better access to capital
Equity holders become more widely dispersed, making it difficult to monitor management
Firm must satisfy all of the requirements of public companies (e.g. SEC filings, SOX etc.)
Reasons for underpricing
Underpricing is attributed to a range of factors:
Information asymmetry between uninformed investors and informed investors
Underwriters seek to control their risk whilst rewarding investors for taking on the risk
Control Theories: underpricing shapes the shareholder base
Behaviour Theories – assumes irrational investor behaviour
Managerial Conflict Theory – increase the number of shareholders in the company
Concerns about underpricing
• ‘Money left on the Table’ – represents a cost to the firm
• However, these costs may be addressed through a second, more accurately-priced issue of shares
Estimate future cash flows and compute PV
$28 share value
33 million existing shares
5 million proposed for the IPO
28(33+5)M=1064M market value
riskless rate should be our CoC rate; 6.71%
So in ten years the firm should be worth 1064m(1.0671)10=2037m
to get from 16.625m to 2037m in ten years, the firm must grow: (2037/16.625)^(1/10) – 1= 0.62= 62% per year
From the information we can see that the growth rate is 4% from 2005 which suggests that the growth is a lot lower in the long run than 62% suggesting this is an overestimation of the company's potential.
Recommendation for the Executives of Netscape
If the IPO is successful, the company will benefit from its increased valuation and access to a larger amount of capital
But will the company be able to maintain this share price?
The company needs to grow by 60% each year to justify the offering price which seems excessive especially for long term sustainability.
Is the new offering price reasonable to:
Fund expected future growth?
To stockpile cash reserves for potential acquisitions?
Gain visibility and credibility within the industry?
Overall an executive of Netscape would reject the proposed offering price of $28
The fact that the oversubscription is not certain is weighted heavily in this recommendation.
Recommendation for an Investor in Netscape
Optimistic perceptions as a result of company confidence and responsiveness to market demand
High investor demand in current conditions is unlikely to falter
Reputable underwriters: Morgan Stanley and H&Q
More risk averse investors may conclude the $28 offering price is too high
Unpredictability of ‘hot issue’ markets
Overall recommendation is that an investor willing to take on a higher amount of risk should accept the proposed offering price of $28. Reject if risk averse.
Would manager of institutional fund who was willing to buy and hold Netscape’s stock at the originally proposed price of $14 per share, be willing to buy and hold and in initial offering price of $28 per share?
Issue of sustainability as fund managers are likely to have long term objectives
Assume greater technical and financial market expertise than typical investors
Overall recommendation that the fund manager should reject the proposed offering price of $28
Based on Jim Harvey's speech structures