Later this week, China’s largest e-commerce company, Alibaba Group Holding Ltd., is expected to raise over $21 billion from investors, going public on the New York Stock Exchange under the ticker symbol BABA. As investors consider this imminent high-profile initial public offering, questions about the valuation of the company and the implications for the future of the IPO market naturally arise.
What is Alibaba really worth? It helps to take a look back at Amazon.com’s IPO. When the company went public in 1997, it was exclusively an online book retailer. If an investor assumed it was to remain a domestic bookseller, justifying the IPO price of $18 would have required that Amazon quickly achieve and then maintain over 90% market share in books! But, such a benchmarking calibration ignores valuable real options that were available to Amazon in 1997.
CEO Jeff Bezos had originally created a list of 20 potential products to sell online, including books, software, and CDs. While he began with books, his business model, if successful, could then be exported into other product markets, as well as into other countries. These scope-up growth options proved ex post to have significant value. As they were realized, they not only justified the IPO price but a price far higher: Amazon’s price of $323.89 at the market close on September 15th, 2014, after split adjustments totaling 12:1, implies a market capitalization of $150 billion, compared to Amazon’s market capitalization of $438 million after its first trading day. This represents an ex post annualized capital gain of 41%!
Like Amazon (AMZN), Alibaba gets most of its revenue from online sales, handling approximately 80% of the e-commerce in China. Alibaba.com, the company’s original marketplace, connects Chinese manufacturers with small businesses. Taobao, its consumer to consumer platform similar to eBay, offers a virtual marketplace. Tmall, its business to consumer platform, provides a virtual shopping center giving international companies access to Chinese buyers. And Alipay, its online payment processor akin to eBay’s(EBAY) PayPal, guarantees every transaction.
With China’s online retail shopping industry of over $300 billion expected to grow 80% by 2018, according to Forrester Research, Alibaba’s prospectus emphasizes this growth opportunity. Another opportunity for realizing real options can be found in cross-border international expansion, including to American consumers who spend the most money online in the world. As learned from Amazon’s IPO, the magnitude of the realizations of these real options will significantly affect Alibaba’s ultimate valuation.
If we’re to hypothesize what Alibaba’s IPO implies for the market for IPOs, it’s worth taking a look back at Google’s debut on the public market. Based on yesterday’s Amendment No. 7 to its F1 registration filed with the SEC, increasing the IPO price range from $60-$66 to $66-$68 per share for 320.1 million American depository shares, Alibaba’s $21.1 to $21.77 billion offering is expected to be the largest is U.S. history, exceeding Visa’s 2008 $19.7 billion IPO. Does a historically large IPO guarantee a hot IPO market to follow? Not necessarily.
Google’s unprecedented $1.67 billion IPO in 2004 was by far the largest modified Dutch auction IPO ever (with only $313 million cumulative total Dutch auction IPO proceeds in the ten previous Dutch auction IPOs). It did not, however, stimulate a flood of additional deals, with no subsequent Dutch auction IPOs until Morningstar’s $140 million IPO in 2005 and Interactive Broker Group’s $1.2 billion IPO in May 2007.
One key difference might be the information about demand revealed during the road show. As detailed in my case study, “Don’t Be Evil: Google’s 2004 Dutch Auction Initial Public Offering,” published by Columbia CaseWorks, Google had originally planned to raise $2.7 billion. It set its offer at $108-$135 per share for 24.6 million shares but then increased the amount offered to 25.7 million shares. Their sanguine assessment of demand subsequently altered: After several delays following road show challenges, Google (GOOG) finally offered only 19.6 million shares at a reduced price of $85-$95, with the offer closing at $85, raising $1.67 billion. Weakened demand for shares may signal not only less appetite for the offered stock but also for IPO shares more generally, and may suggest not only less investor confidence in the firm’s growth prospects but also for firms more broadly.
In contrast to Google, demand for Alibaba shares has been sufficiently strong that the order book is being closed early. The increase in the offering price announced after yesterday’s market close, raising the maximum price from $66 to $68, could indicate in part greater overall IPO appetite and more investor confidence in growth prospects for other firms. Many Internet and tech companies have filed IPO paperwork but not yet gone public, including Box Inc., GoDaddy Inc., HubSpot, LendingClub Corp., and Vivint Solar. These firms await Alibaba’s performance before moving forward with their own offerings.
Only time will tell what Alibaba will be worth, and whether the IPO market that follows will be hot, but lessons from the Amazon and Google IPOs certainly help to inform our expectations.
Laurie Simon Hodrick is the A. Barton Hepburn Professor of Economics in the Faculty of Business and the Founding Director of the Program for Financial Studies at Columbia Business School.