A Leaner Upside For Outsiders

The market for initial public offerings is booming again. That's great news for companies issuing shares--and bad news for most of the people buying them.

In the first half of 2007, the number of IPOs shot up 29% from the same period a year earlier, with new shares posting an average gain of 13%, double that of the Standard & Poor's 500-stock index. Demand for new issues is surging thanks to the torrid growth of leveraged buyouts and share buybacks, which have reduced the supply of shares. Investors are hungry for more.

But unlike the past few years, almost all of the gains from this year's IPOs have gone to the lucky few who bought directly from Wall Street underwriters. After the new shares have hit the open market, they've gained an average of just 2%, the lowest return since the 2002 bear market, says Renaissance Capital in Greenwich, Conn. Early buyers, in other words, are getting a better deal. "There's plenty of excitement--and cash--to go around when an IPO debuts," says Tim Walker of research firm Hoover's Inc. "Then the clamor dies down and sometimes investors realize the stock isn't that good."

This year's environment is vastly different from that of the past four years, when investors who bought shares on the open market got about half the total gain through the end of the year that early IPO investors got. Now, they're getting only 15% as pricing has become more aggressive.

Take the offering of Blackstone Group (BX ). Priced at 31, it netted $4.1 billion, the biggest IPO take in four years. On the first trading day, June 22, shares fetched more than 36. They've since dropped to 30. By contrast, Google Inc. (GOOG ) debuted at 85 in August, 2004. Two months later it had doubled; it's now around 540.

With underwriters pushing prices higher, it's unlikely there will be many IPOs withanything like Google's upside. This year, some 29% of deals have been priced above the range projected by underwriters, up from 22% in 2005 and 2006. Only 20% of deals have been priced below the range in 2007, almost half the rate of the previous three years.

Still, the market is more reasonable than in 1999 and 2000, when 40% of IPOs priced above their ranges. Says Scott Gehsmann, a partner at PricewaterhouseCoopers: "We're not seeing the obviously speculative deals of the late '90s." At least not yet.

By Aaron Pressman

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