Case Study 2: Netscape’s IPO
February 17, 2015
Netscape was founded in 1994 and it provided internet applications for communications and commerce. In 1995, Netscape decided to raise capital by initial public offering. Although initial price for shares was at first $14, underwriters suggested increase the price to $28 one day prior to the initial public offering. The board of Netscape was not sure of the high price and fell in dilemma because the firm didn’t have a long track record and IT industry was not easy to predict. Other than initial public offering, Netscape could raise capital from debt and private stock offering, or from angel investors. But going public seemed to be the best option to take advantage of due to its liquidity and accessibility. It was calculated that in order to justify the price of $28 per share over 10 years, Netscape’s revenues must have grown by 44% every year. If the price were $14, the growth rate should be 35%, price of $54, it was 54%. While grown rate of 44% seems to be high level of growth, it can be frequently observed in IT industry. The average annual revenue growth rates were 37% for Microsoft(1990-1999), 78% for Amazon(1997-2006), and 41% for Google(2004-2013). They are all IT industry companies but comparing Netscape with those companies directly has some problems because the product and market condition is quite different.
IPOs are often underpriced because underpricing lowers risks, guarantees a positive return for investors, helps future business, and rewards the trustworthy investors. HPR of Jim Clark, Kleiner Perkins, and Media companies were 32,932.95%, 12,314.88% and 3,348.58%. Annualized HPR of Jim Clark, Kleiner Perkins, and Media companies were 2,650.42%, 4,633.19% and 19,623.55%. 1. What risks did Netscape face in 1995?
In 1995, Netscape decided to issue their initial public offering. They needed more capital for future growth, and tried to obtain visibility and credibility in their industry by going public. Then Netscape was confronted with the situation of their lead underwriters suggesting the board double the offering price from $14 to $28 one day before the initial public offering. It was a big dilemma to Netscape’s board because Netscape was a new firm, and investors might interpret such a high increase of the price per share as unjustifiably opportunistic therefore decreasing demand. Moreover, the industry was also unpredictable and at that time, some competitors like Spyglass and Microsoft were emerging and threatening Netscape. So these all circumstances made the board’s decision very difficult.
2. Other than the IPO, what are Netscape’s alternative sources of capital? Are these alternative sources likely to be suitable and/or sufficient?
Netscape’s original angel investor was Jim Clark. He contributed $3 million originally and an additional $1.1 million in the 1994. The venture capital firm Kleiner, Perkins, Caufield & Byers also invested in Netscape with $5 million. Lastly, Adobe Systems and five other media invested in Netscape in its largest round of financing. They could also raise capital through private stock offering and debt (bonds). However, going public was better option to Netscape for several reasons. Once they go to public, they will be able to access capital markets easily. And through initial public offering, people who already have an ownership can lower their risk. It will also reduce the information asymmetry, so Netscape can offer more information about their company. 3a.) How fast must Netscape’s revenues grow on an annual basis over the next 10 years in order to justify the price of $28 per share?
In order to determine the growth rate that would justify a $28 per share price, we created an Excel model that projected Netscape’s revenue over 10 years for a given growth rate as well as all of Netscape’s expenses and tax...
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