Rackspace and the 'winner's curse'

Rackspace is going ahead with its initial public offering this week, even though it's a pretty miserable time for IPOs. July was the slowest month for IPOs in five years, the Wall Street Journal reports, with just three U.S. companies going public. Two of those fell below the offering price on the first day.

Rackspace (RAX) is a hosting company, with about 40,000 servers that handle business e-mail accounts, Web domains and "computing in the cloud" systems. It's offering 15 million shares at an estimated $12 to $16 per share, and is conducting the offering through an annoying Dutch auction process. 

That means that this week, bidders are saying how many shares they want and at what price. The final price is determined once all the bids are in. If you underbid, you don't get anything. If you overbid, you get shares at the final price. The IPO Web site is here.

The downside to this auction is the "winner's curse," which Rackspace discusses in its S-1 filing. Because the price is unknown until the end, winners might think they paid too much and will unload shares to limit losses. And the people who underbid will see this and steer clear. Rackspace warns investors that the stock could see a "significant decline" in value shortly after the IPO.

Let's take a quick look at Rackspace's financials. The company has averaged 59% revenue growth over the last five years, reaching $362 million last year. It's on track to beat that figure handily this year, reporting $120 million in revenue for the first quarter of 2008.

Rackspace brings in small profits every year, with $18 million in net income last year. The company has about $145 million in interest-bearing debt and $28 million in cash.

The company expects to get $163 million in the offering, which it wants to spend on growth plans and general purposes. Part of that money could go to the $160 million construction of its corporate headquarters in San Antonio.

Rackspace definitely has its critics. Customers expect consistent, always-on service, and when servers go down there's hell to pay. Web companies Tumblr and 37signals were upset when Rackspace suffered outages earlier this year.

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Comments

 

You're right- dutch auctions are a pain in the neck! And we all need to understand that there is a real reason they're doing it this way. Chances are, especially if there are a pretty large number of investors, many people are going to pay too much for Rackspace stock; and when that happens, they may be in for a ride as it has a good chance of seeing a quick drop shortly thereafter.

In my opinion, not a good idea. Stay away! http://www.financialnut.com

Trevor (Posted 08.06.08 9:52 AM) Report Abuse

Hey Cousin,

Thought this might be of interest to you. We're still  goint to move forward on this.

Carla (Posted 08.06.08 12:38 PM) Report Abuse

Valid points, but keep in mind that using this method the all of the proceeds from the sale of the stock (less underwriting expenses) go to the company and not to "friends" of the underwriters who flip the stock for the difference between the initial offering price (purposefully set a little on the low side to make sure it all sells) and the price it actually trades for (its market price).  Also, the offering materials indicate that all of the major current shareholders are holding on to their stock and are in it for the long haul.

TechNut (Posted 08.06.08 7:16 PM) Report Abuse

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