Real March Madness Is in the IPO Market

 | Mar 21, 2014 | 11:53 AM EDT
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You want March Madness? Genuine March Madness? Look no further than the IPO market these last few days.

It is absolutely crazy out there, with sliver deal after sliver deal coming public and immediately going to a premium. I am talking about A10 (ATEN), Paylocity (PCTY), Globoforce (THNX), Borderfree (BRDR), Castlight (CSLT) and Amber Road (AMBR) and literally about a dozen other companies that have taken advantage of the widest window I can recall to come public. This is an extraordinary moment, with many of these companies using identical buzzwords -- cloud-based, software as a service and big data software -- all kinds of companies that mimic (CRM) or Cornerstone OnDemand (CSOD) or Workday (WDAY).

Meanwhile, the money pours out of those established cloud plays as if they were reporting terrible numbers when, in reality, they are delivering great ones. It doesn't matter. Consider those senior growth stocks as teams like Florida,  Virginia and Michigan State and these IPOs as 16-seed colleges.

I find this rotation, which I alluded to earlier, to be frightening in its speed and breathtaking in its frothiness. Why? First, we hardly know anything about these companies. Half of them sound like beers, for heaven's sake. Second, only a small float is coming public, hence the title sliver, causing those bigger institutions who want to get what's known as a whole position to come into the aftermarket to complete it. Remember, that's how you get a pops of these kinds of magnitudes. You restrict the float and then you give a growth mutual fund, say, 3% of the stock, which usually amounts to a position that's too small to matter to that client. But the client can then go in the aftermarket and buy what's necessary to get a full position and is able to use a blended average to get a decent-sized position.

So, let's take a fine Pilsner like Amber Road, which is actually a management software company for global logistics. Today, it prices 7.38 million shares at $13 and it opens at $17.50. How does that happen? Maybe a multibillion-dollar mutual fund got 100,000 shares at $13, not enough to go around. It can then buy another 100,000 shares at the opening and own 200,000 shares at $15.25. Not bad considering the stock is more than $17. Oh, and by the way, I don't mean to pick on Amber Road as 30% of the stock outstanding did come public, far more than compadres A10 at 21%, Border Free at 16% and Paylocity at 14%. Plus, that's a lot more than some of the worst of the slivers this era, including Yelp (YELP) at 10% of the float and LinkedIn (LNKD) at 7%.

So, if Yelp and LinkedIn ultimately worked, what's the fly in the ointment? First, Amber Road is a relatively unseasoned company with fast revenue growth that's losing a lot of money. That's fairly typical of these deals. The public's appetite has been whetted, but not that many months down the road it is likely that there will be a secondary offering that comes well above the IPO price. That alleviates the tightness and tends to send a company's stock down almost instantly.

Take the trajectory of FireEye (FEYE). Here was one of the hottest stocks in the universe. It's an acknowledged leader in security software for the enterprise. Its software actually flagged the security issue at Target (TGT).

It had been a huge winner trading all the way up to $96 not that long ago. Sure enough, just when the stock spikes to that level, the company files a 14-millio- share secondary enabling insiders to cash in and the stock gets clocked instantly, with the deal ultimately being priced at $82.

Next thing you know the stock's below $70. That's right, $96 to $70 in a blink of an eye. And remember, this company, while losing money, is indeed the best of breed with this hideous decline occurring while it came out that Target turned off the FireEye program that would have detected the hacking that has hurt the retailer so badly.

I think the cautionary note here is that stocks like Yelp and LinkedIn are the exceptions and FireEye is the rule. Sure, you made a lot of money if you rode FireEye to the top. But you needed to get out when the insiders sold, something akin to what happened in 2000 when so many insiders sold.

All I am saying is be careful. There's froth everywhere in the IPO market right now. Don't confuse IPOs with IPAs, although both can indeed make you drunk if you have too many of them.

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