Should You Get in on the Next Big IPO?
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Welcome to the Stay Wealthy Podcast. I'm your host, Taylor Schulte. And today we are talking about the wonderful world of IPOs, also known as initial public offerings. But first, I want to quickly thank everyone for all the kind messages and feedback I've received over the last few weeks.

There are over 700,000 podcasts in iTunes with business podcasts just like this one being the second most popular genre. And I learned from a listener this week that we recently cracked the top 200 in iTunes, which is just crazy to me.

This podcast is, as you guys know, a labor of love, and it just feels good to see my hard work pay off and just get some recognition and know that people are finding this information helpful and valuable. So thank you for the support. Keep the questions and messages and feedback coming. I read and respond to every email, even the one that said, Taylor, you don't know what you're talking about and you should shut this podcast down. Even that one, I even responded to that email. So please keep the messages coming and thank you again for all the support.

Okay, with that out of the way, by now you have likely caught wind of the Uber and Lyft IPOs. If not, the short story is that these two companies were private for a really long time, meaning the general public, you and me, could not invest in them. And now they're publicly traded, which means anyone and everyone can own a piece of these companies.

Uber in particular was initially funded by a venture capital firm called Benchmark. And Benchmark is a very well-known VC firm who has previously funded companies that we all know by name, companies like Twitter, Dropbox, Zillow, and a bunch more.

Uber was also funded by a mutual fund firm called Fidelity Investments. So they took on private money, private investments in the beginning. Same with Lyft, same with a lot of these companies to help get them off the ground.

Now, given all the headlines around these two IPOs recently, I wanted to do an episode on the topic and really talk about four things. One, why companies like Uber, Lyft, Snapchat, and all the others you know, why they start out as private companies and then make this decision to go public. Number two, I want to talk about a brief history of the historical investment returns of IPOs.

Number three, I want to try to answer the question, should mom and pop investors, people like you and me, should we be investing our hard earned money in these really exciting companies? And then lastly, I just want to share some thoughts on Uber and Lyft and where I think kind of things might go from here.

For all the resources and links mentioned in this episode, visit youstaywealthy.com forward slash 45. I don't know about you, but I am uber excited about this episode. Let me just lift up my microphone a little. All right, let's get into it. If you're a Shark Tank addict like me, you've likely heard the sharks say something along the lines of, the only way I'll get my money back is if there's an exit.

And you might remember the founder of Ring. Ring is that fancy video doorbell a lot of us have now. Well, the founder of Ring was initially on Shark Tank and he didn't get a deal. But Richard Branson shortly caught wind of it, invested some money. And then the company, as we all know now, was eventually sold to Amazon for $1 billion. So that was their exit and everyone enjoyed a nice payday, except for the Sharks, of course.

Selling to another company like Amazon or being acquired is one version of an exit. Another option is an IPO, taking your private company to the public markets and giving them a piece of the ownership. I mean, there's a lot of reasons, but there are really two main reasons that a company will go public.

The first reason is they require a lot more money to expand. So taking investments, taking money from the public will allow them to do this expansion to buy more equipment, invest in infrastructure, or maybe even pay off debt. So that's one reason is they need more money.

Two, an IPO allows the owners and the initial private investors, those venture capital firms, to finally cash in on all their hard work and all the risk that they took. The owners and the private investors in the beginning –

often stand to make millions of dollars when the company goes public. As you all know very well by now, IPOs typically come with a lot of hype. The media gives them a lot of coverage. They make headlines in the newspapers.

For the first time, investors like you and me can invest our hard-earned money into these exciting companies that we've been watching and using and reading about for years. And it feels like a great opportunity. Unfortunately, it doesn't always work out in the favor for the mom and pop investors. For instance, if you bought Lyft stock at its IPO, you've lost, as of this recording, you've lost about 34% of your investment.

And Uber is not too far away. Uber is down about 18% since hitting the public markets. Now,

We're talking about a really short time period here. So it's difficult to draw any real conclusion. Remember, Facebook stock, when it went public, dropped over 50% post IPO, all the way down to about $17 per share. And if you look at it now, as of today, it trades at about $186 per share. So just because there's a short-term drop after a company goes public, it's

isn't always indicative of future returns. But even including Facebook, we're only talking about a short time period for all three of these companies. And more importantly, we're only talking about three companies, which is a really small sample size. Thankfully, there's a guy out there, a professor, his name is Jay Ritter, and he's a professor at the University of Florida. And

And he's an IPO expert and he has a ton of historical data on initial public offerings. And Jay is really nice to make this information public and even update it annually on his website. So if you're interested in diving into some of this stuff deeper, I'll link to his website in the show notes.

But according to his site, from 1980 to 2015, the average first day return for an IPO is a massive 18%. So on average, the very first day a company goes public,

the return has been a positive 18%. In addition, his data shows that returns are positive on the first day more than 70% of the time, which is just really, really interesting. So that first day usually generates some really good returns and is usually positive.

However, if you stretch this out a little bit longer, the average three-year return, if you bought it at the IPO and you held it for three years, the average three-year buy and hold return lagged the market by about that same amount, by about 18%.

In other words, holding these IPO stocks for three years would have returned about 18% less than if you would have just bought a broad-based stock index fund. Now in Jay's data, he uses the CRISP value-weighted index for his comparison, but I'm fairly confident that you'll find similar numbers if you use a different broad-based index, perhaps the S&P 500 or something even more broad-based than that. But Jay uses the CRISP value-weighted index.

in his data. Ben Carlson, who blogs at A Wealth of Common Sense, he points out that this average first day return, yeah, it's huge. 18% is a big number, but he reminds us that this data is likely skewed by the dot-com bubble. If you invested in the 90s,

These tech IPOs, these tech stocks were just skyrocketing. We all know how that ended. So if you stripped out those years where we had these crazy tech companies just going through the roof, if you strip those out, the average first day returns would probably be much lower, but it is what it is. The tech bubble is part of history and we're looking at historical data. So that's what we get.

Now, these are really exciting numbers, right? Aside from that three-year buy and hold number, that first day, on average, you're likely going to have a positive return on the first day. It sounds like a good deal. Now,

I want to point something out that the IPO numbers that we just talked about are assuming that you are able to get shares of the stock before that big first day pops. And very few investors are able to get in before that happens when the market opens. Interest in these really hot issue IPOs, especially the Ubers and Lyfts, these companies that we all use. It's not easy for small investors like us to get the shares that we want to get if we get any shares at all.

For example, there was an article that came out talking about Morgan Stanley and Morgan Stanley offered IPO shares to its private wealth management clients, but the minimum investment was $250,000.

So you had to have a lot more money than that to risk $250,000 on an IPO. Also, Morgan Stanley charged upwards of 2% to their clients just for this opportunity. So you had to have a lot of money and then you had to pay a lot of money to get in. To make matters even worse, the shares are restricted. So Morgan's clients have to wait 180 days for

before they can sell the stock. And I just shared how poorly they're performing out of the gates here. So you can imagine early investors in Uber and Lyft through Morgan Stanley, probably not too thrilled about this right now. And I don't mean to pick on Morgan. There was just an article that came out kind of highlighting this deal. This is what happens across all the big brokerage firms when you purchase these IPO shares. So to sum this all up, the investment banks, these big investment banks like Goldman Sachs and Morgan Stanley,

They get paid huge bucks to take a company like Uber public. Companies like Uber will come to Goldman to help guide them through this process and take them public. And they get paid handsomely for that.

Then these companies charge a hefty fee to their clients to go ahead and get in on the stock early, regardless of how the stock performs. And then lastly, the owners of these private companies, the owners and early investors in Uber and Lyft, like I just shared, they get a really nice payday when they're finally able to cash in their shares and public's able to buy in. So

There's a lot of winners here, but for the general public, for you and I, it's really a coin toss. It really depends on your time horizon, how lucky you are on the first day of trading. Your decision to invest in the IPO could make you look like a hero or it could leave you running from the markets and really never wanting to invest again.

What we do know is that on average, holding IPOs for long periods of time underperform the broad indexes. So should mom and pop investors put their hard earned money in IPOs?

In short, I personally think the costs and speculative nature of investing in IPOs, I think that all outweighs the benefit for us individual investors.

I've shared numerous times on the podcast that academic data, real academic data supports investing in low cost, broad based index fund versus trying to pick individual stocks or trying to time an IPO. And since I'm a data nerd, that's what I'm going to stick with for my hard earned money.

Now, before you harp on me too quickly, if you're a longtime listener of the show, you might know that I'm a big fan of what we call cowboy accounts. And your cowboy account should represent less than 5% of your investable assets. And this account is reserved for making fun, speculative investments like buying individual stocks,

dipping your toes in Bitcoin, or even getting in on the ground level of an IPO like Uber or Lyft or Snapchat or Facebook or any of these. This cowboy account allows you to scratch that itch, have some fun, participate in the markets. You might learn a thing or two by getting your hands dirty and you're doing it without jeopardizing your financial plan.

Speaking of your financial plan, it also likely makes sense that you have a concrete plan in place before you even think about investing in an IPO. Your financial plan, and I've said this before, your financial plan is going to guide your investment policy statement. And everybody should have an investment policy statement. I don't care if you have a financial advisor or if you're managing your accounts on your own, everyone should have an investment policy statement. So your financial plan will guide your investment policy statement.

and your investment policy statement will guide how your money is invested in the markets, even your cowboy accounts.

your investments really should not radically change unless your financial plan changes. So just because your neighbor is buying shares of Uber or a friend or a family member, that doesn't necessarily mean that you should be buying it too. I personally don't own any shares of Uber or Lyft. I've never participated in an IPO and I really don't plan to, but

I'm really interested in watching these two companies in particular and watching from the sidelines to see how this all plays out.

Particularly because, I mean, Uber is really getting picked on lately, but Uber booked $3 billion in losses last year. Yes, that's a lot. $3 billion in losses just last year. And this is the company, if you remember, you can Google the original Uber pitch deck. Uber originally pitched itself as...

profitable by design. That was their quote, profitable by design. And this company is not profitable. And there's a lot of analysts and really smart people out there that don't think they will ever be profitable. And if you're wondering, Lyft is not profitable either. They recently reported quarterly losses exceeding $1 billion. So we're talking big money here.

And look, we can point to other companies that were not profitable, that overcame that, became profitable, and they turned out to be tremendous investments. So again, we're dealing with a very small sample size here, but these are the companies making headlines right now. And so I wanted to talk about them. Keep in mind, there is no other reason why another company or several companies are

Couldn't set up a computerized algorithm that matches riders on their smartphones with drivers who also have smartphones. You know, after all this entire arrangement really is nothing more than a really nicely designed app, right?

And yes, Uber and Lyft and some of the others out there, they have the brand recognition. They were first to market. But if you've done some reading lately, Google has some serious leverage over Uber in particular. It was recently released that Uber paid Google about $58 million between 2016 and 2018 just to use Google Maps.

And then you might be saying, well, maybe they don't need to use Google Maps. Maybe they can use another map provider or they can develop their own mapping tool. But in a recent filing, Uber actually came out and said that Google Maps, their functionality was critical to its platform. And this is the quote. The quote says, and this is from Uber, the quote says, we do not believe that an alternative mapping solution exists that can provide the global functionality that we require to

offer our platform in all of the markets in which we operate. So Google Maps is critical to Uber's functionality. Now in 2016 to 2018, they paid them $58 million. Maybe it doesn't sound like that much money, but it could certainly be a lot more in the future if Google starts to use this as leverage.

And remember, it wasn't that long ago that you could open up the Google Maps application on your phone and you could book an Uber directly through Google Maps. And if you've noticed lately, that doesn't exist anymore. Google has stripped that away from them.

I'm not sure why. I'm not about to speculate. But my whole point here is that there could be another company or several that come in to try and compete with Uber and Lyft. So that's one thing that's going to be kind of interesting to see play out. What might make Uber even less attractive is its somewhat contentious relationship with its drivers who, as we all know, provide 100%

of the actual service to the end customers. And you might've seen a few weeks ago, thousands of Uber drivers across the country turned off their apps and went on this strike over pay and working conditions.

Recently, Uber released a securities filing and stated that they reached an agreement with about 60,000 of its drivers. But get this, the total cost, including attorney's fees, was estimated to be between $150 million and $170 million. So there's just a lot of money flowing out of Uber right now.

Lastly, something I don't think everyone is aware of, it was reported back in 2015, and I don't think it's changed all that much today, but it was reported that Uber passengers, us, the users of Uber, were only paying about 41% of the actual cost of their trips. We were only paying a fraction of what it actually costs to take an Uber. The full cost, the full fare was being subsidized

by these early investors. And it was essentially a marketing play. They're essentially paying for customers by reducing the cost and making it more palatable for us to adopt and use their company and their platform, reducing that cost in the near term to try and get customers.

I'll link to the article in the show notes if you're interested in reading more, but what happens when they burn through all of their funding and we all start paying full fares to take an Uber? I'm not really sure. I don't know how my behavior is going to change. I'll probably use these ride sharing apps a little bit less. I'll probably start to be a little bit more conscious, especially if

The number is much, much higher than what it is today. Now, some say, there is some research here, some say that there's room to actually raise prices. So maybe they know what they're doing here, but there's some studies done in the cab industry and the research showed that historically,

when cabs raised their fares by 20%, that they only lost about 4% or 5% of their customers. So there might actually be room to raise prices. Sure, maybe not everybody's going to use Uber, but they're only going to lose a small number of their users and they're going to get a higher price. So maybe it all evens out in the end.

But regardless, there are a lot of question marks here and there's a lot of risk, rightfully so. These are very new, young companies. But with risk comes opportunity. The venture capital firms like Benchmark and others, they'll be the first to tell you that they're happy if one out of every 10 of their deals is

is a success. Like they're okay with nine of their deals falling flat on their face as long as one of them knocks it out of the park. Like that reward is going to make up for the rest. And they understand this. This is the business that they're in. They understand the risk and they're willing to take it. But-

I'm personally just not interested in gambling with my money and taking this quote unquote ride. There's too many unknowns for me. And I would rather be a speculator on the sidelines and put my money to work in other places that I see perceived less risk. And for those reasons, I'm out.

Thank you, as always, for listening. Again, you can grab all the links and resources mentioned in this episode by going to youstaywealthy.com forward slash 45. I'll see you in two weeks. This podcast is for informational and entertainment purposes only and should not be relied upon as a basis for investment decisions. This podcast is not engaged in rendering legal, financial, or other professional services. ♪