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INVESTMENT COUNTER/ IPO WATCH

It has been a while before a tech IPO had the effect of making investors salivate. Ivan Pavlov was immortalised by making an observation that dogs salivate when there is a bell before feeding time even before seeing the food being taken out.

Well, the dogs at the Nasdaq are salivating already and the offering is expected to be scrumptious. The company that we are talking about could draw a parallel with Pavlov in having an expression coined on its name.

So have you googled out the name of the company yet? Yes, Google's IPO is what we are referring to and the company's name has morphed into a verb: To google is to search the Internet for a name or a phrase. Google's plan for a $2.7-billion public stock offering is probably the most significant IPO from a tech company since the bursting of the Internet bubble in 2000.

The company, which was founded in 1998 by two Stanford University graduate students, now has the world's leading search engine. While the IPO is expected to do well, the rather unconventional method of its offering may most likely see small investors getting their due.

The 'Dutch' advantage
A remarkable feature of the IPO is that instead of channelling shares to institutional investors through investment bankers, Google hired Morgan Stanley and Credit Suisse First Boston (CSFB) to run an offering that gives people an opportunity to bid by phone, fax or the Internet.

It's the biggest test of a system pioneered by San Francisco investment banker William Hambrecht in 1999. The IPO differs from previous sales by giving individual investors the chance to enter their own estimates of each share's value, within a range set by Google. Only after they have entered their bids will Google and its bankers determine the price.

The Dutch auction - named for a practice used by flower-sellers in the Netherlands - being used by Google is a conventional auction turned inside out. Bidders, instead of offering higher prices to top rivals, must make offers without knowing what others are offering.

The final, or clearing price, is the highest at which the entire offering will be sold. In the Dutch auction, more money goes into the coffers of the issuing company and small investors have an equal chance of getting IPO shares.

The past has not been rosy...
US Internet IPOs in the recent past had left a bad taste. So many promising dot-coms of the 1990s were proven to be nothing more than mirages. eToys and on-line grocery deliverer Webvan were just some of the skeletons that adorned the IPO graveyard.

...but revenues say otherwise
However, there is a difference between then and now. The Google IPO may be a harbinger of the business maturity of the Internet. Google is a 'real' company with 2003 revenue of close to $1 billion and a profit of about $105 million.

It has been profitable since 2001 and has seen its revenue jump to $961.9-million last year up from $347.8-million in 2002 and only $86.4-million in 2001.

Analysts expect Google's filing to result in the company being valued at about $20 billion, giving Sequoia Capital and Kleiner Perkins Caufield & Byers, two early Google backers, a 150-fold return on their investments.

Analysts say Google would do well if it is valued in line with existing Internet stocks such as eBay and Yahoo. eBay is trading at roughly 18 times expected revenue per share for 2004 while Yahoo is trading at around 13 times revenue.

A similar valuation for Google would yield a market capitalisation of about $12-14-billion - comparable with the two more established companies.

Concerns
Analysts say the pricing of the issue is important so that it does not sink beneath the offering price once it hits the market. A flop by Google could once again erode confidence in Internet stocks. Google may have to face tough competition from companies such as Yahoo and Microsoft which aim at a greater slice of the search engine business.

Another concern is that consumers' relationships with search engines are pretty shallow and are highly transactional, involving quick visits, quick answers and moving on. If a competitor can improve on that experience, consumers have little reason to stay with Google.

To address the glitches, Google has added personalisation features like establishing preferences for languages. Besides, a host of applications like e-mail and an instant messaging (IM) is expected to help it take on rivals.

Content-related services and a continued push into the local-search market would also consequently open up more advertising possibilities for the company.

Google might also use the IPO cash to go shopping for companies that have or are developing complementary technology and services. For all the interest that the company has generated, the IPO surely looks on course to sail through.

Winner's curse
However, one phenomenon that they warn against is the 'winners curse'. "Google is essentially a concept company like Biocon in India, even though it may have a good revenue model," says a portfolio manager from a leading brokerage. "The aura surrounding it combined with the unique Dutch auction would obviously attract a lot of high bidding."

This - driving the stock price to levels that are unsustainable and inflated - is a possibility that fund managers warn against. In its registration statement, Google cites the possibility that the offering price will be so high that demand for shares could be limited, causing the price to drop.

Moreover, it says, the auction winners might then conclude that they overpaid and sell to limit their losses, further driving down the price.

For all the Indians who wish to be part of the Google IPO action, Fund managers say the only route available for individual investors would be through investing their $25,000 via the many mutual funds in the US which have an IT fund (since the IPO is open to only to US citizens). Another way, they say is through specialised IPO funds in the US such as the IPO Plus Aftermarket Fund.