Spotify’s direct listing on the New York Stock Exchange is coming on April 3rd and there’s already been plenty written about this unusual tactic. Much of the reasoning for the move coming from the company seems to circle around the fact that underwriting a traditional IPO costs too much, so there will be considerable savings by avoiding that route. The more significant characteristic of a direct listing in this case may be the fact that there will be no lock-up period during which current stockholders are forbidden to sell their stock, and that could be a major indicator of the real level of confidence that the insider investors have in the venture going forward.
Doing a direct listing can be taken a couple of ways. One could liken it to selling a house situated on a prime part of the beach in Malibu where no others are available for miles. You think you know what it’s worth so you say to yourself, “Why do I need to pay a realtor when it’s so easy to sell it myself?” A potential buyer might feel otherwise though, knowing that a realtor will help set a more realistic price that’s in tune with the area’s market conditions, and order an inspection to find any faults that the owner may not be aware of.
Ordinarily in an IPO the underwriting investment bank (the realtor in our example) would set the initial market price by buying shares in the company to set the market, then buying more after trading begins to keep the price up if needed. The underwriter also gets the institutional investors ready to purchase in order to make sure that there’s a healthy level of trade activity on offering day. Doing a direct listing negates those advantages, but it does save the 5% or so fee that the underwriter would charge, which admittedly could be substantial in this case.
Of course, it also means that there’s no traditional 90 to 180 day lock-up period. This is actually not mandatory, but is usually insisted on by the underwriter since it’s a way to keep the market from being flooded with stock and depressing the price in the process. Perhaps more importantly, it’s also in place to give investors a sense of confidence that the insiders aren’t dumping stock in the company the first chance they get.
Spotify’s direct listing with no lock-up seems to indicate that at least some of the insiders can’t wait to bail on this thing. That could mean that they don’t see a long term future for the company (and maybe even the streaming delivery side of the music industry in general), or don’t think the prospect of an acquisition to be very high. Otherwise, they would have endured a traditional IPO along with its customary lock-up period without a blink of an eye, or at the very least imposed some sort of partial lock-up into the direct listing where only a certain percentage of stock could be sold. We won’t even get into the issue of the amount of money that Spotify could have raised with an IPO, another head scratcher for a company that lost nearly a half-billion dollars last year.
As we wind down to April 3rd, you’re going to be hearing much about investor faith in the future of Spotify and music streaming, but we’re going to see the real level of conviction on April 3rd when they’re free to cash in.[Graphic by Alpha Stock Images – alphastockimages.com]