Price Cost Twitter Cash but Gave It Credibility

Brendan McDermid/Reuters

Twitter 's stock gained 73 percent in its first day of trading, adding more than $10 billion to the company's market capitalization.

If the company had sold its 70 million shares at $45.10, the price of the first trade, instead of at $26, the price of the initial public offering, it would have raised $3.16 billion instead of its more modest $1.82 billion.

That math suggests that, as Dan Primack of Fortune wrote, 'Twitter left more than $1.3 billion on the table.'

This is a common assertion when new stocks soar in their first days of trading. It suggests that the bankers managing the offering miscalculated investor demand for shares and that the company somehow lost out. Twitter shares closed down 7.24 percent, at $41.65, on Friday.

But unpacking this claim raises thorny questions about who, exactly, is supposed to benefit from an initial offering and what exactly is motivating investors when they seek shares in a new company.

Should a stock offering maximize value for the companies selling shares, for the investors looking to gobble those shares up or for early employees and funders? And why are investors buying the shares - because they love the company's fundamentals or because they sense a good deal?

One school of thought says companies should use these offerings to raise the maximum amount of cash, regardless of what that does to their short-term share prices.

'It's not in Twitter's interest to really care about the price they close at today,' David Stewart, co-founder of a start-up firm called JumpCam, said in an email on Thursday. 'What should matter to them is one, how much money they raise via the I.P.O., and two, their long-term valuation.'

Mr. Stewart says Twitter and its banker, Goldman Sachs, widely miscalculated demand for the stock, depriving the company of cash in the bank and long-term market value.

There may be some truth to that, but Twitter is clearly satisfied with the cash it raised and now has access to the capital markets should it need to raise more money soon.

As for the investors who bought the stock as part of the offering, they did well. Those who were able to secure an allocation of shares recognized an instant 73 percent gain on their investment. Mr. Stewart and those who share his view argue that that's an irresponsible move, 'transferring some value' from Twitter 'to pre-I.P.O. speculators.'

As for the early employees, venture investors and those who managed to secure Twitter shares on the secondary market, they also made out well in the debut. Sometimes insiders sell during the initial offering. Such sellers might therefore favor pushing hard for a high offering price. Such was the case at Facebook, where internal pressure for a lofty valuation contributed to its high offering price.

But no Twitter insiders sold stock as part of the offering, so their shares, valued at as little as $17 just a week ago, are now worth more than $40 a share. With the shares still at least 60 percent above the initial offering price, Twitter's insiders must feel rather pleased with how the offering was executed.

But it is also in Twitter's long-term interest to remain in the good graces of institutional investors that believe in the company and will continue to invest. After all, based on fundamentals alone, it was hard enough to justify valuing Twitter at $18.3 billion, based on $26 a share, let alone $31.8 billion, based on $45.10.

The truth is, there is no way to know how much money Twitter left on the table.

Without a doubt, Twitter probably could have raised more money for itself by increasing its initial offering price. But an I.P.O. is far more than a fund-raising exercise. When a company has publicly traded shares, it has taken the bracing step of putting itself at the mercy of investors. Twitter's stock is now a public barometer of sentiment toward the company.

By taking a more conservative approach to pricing, Twitter possibly deprived itself of some capital. But it won the good graces of the market, which will help determine its fate.

If the price had been much higher than $26, the stock might have plunged below the offering price on the first day of trading, setting off a swirl of negativity. Facebook's shares sagged after its initial offering, complicating management's efforts to persuade investors that it was working on ways to increase advertising revenue.

Twitter still has to prove it can make money. But for now, at least, it has the confidence of the public markets.