Reddit, which officially filed to go public Thursday, is taking a nontraditional approach with its IPO, analysts say, making a portion of its shares available to some of its most loyal users before the general public. If history is any indication, this could produce mixed results for investors.
The social network said it will offer the site’s moderators an undetermined number of shares, according to Form S-1, with more details to come at a later date. While companies typically reserve some shares for retail investors, the vast majority of shares in an IPO initially go to institutional investors and wealthier individual investors. The public can eventually buy after the shares have been listed on the stock exchange, but often the price will have risen by then. In other words, an initial public offering is usually not open to the public.
Reddit’s move is aimed at attracting its loyal user base and creating a deeper sense of belonging among those who already contribute much of their time to running the site, says PitchBook analyst Kyle Stanford. Linking their currently unpaid work to the company’s long-term performance could generate even greater loyalty and some good PR in the process.
“It’s unusual. It’s a nice goodwill thing,” Stanford says. “There are many benefits to these community-driven apps.”
Co-founder and CEO Steve Huffman noted this in the S-1: “Our users have a deep sense of ownership over the communities they build on Reddit. This sense of ownership often extends throughout Reddit. We want this sense of ownership to be reflected in real ownership, so that our users are our owners. Becoming a public company makes this possible.”
But loyalty may come at a cost: If the stock price collapses after the IPO, individual investors are more likely to panic and sell, potentially creating a death spiral. Institutional investors, according to traditional thinking, have a stronger stomach to ride out the early complications, which can prevent some of that volatility.
A recent move to democratize IPOs backfired spectacularly: In 2021, the investing app Robinhood went public and made a much larger portion of its shares available to individual investors, but the price fell by more than ‘8% on the first day of trading. Currently trading at around $13.50 – less than half the IPO price – the shares reflect a business performance deemed “disastrous” and public goodwill towards the company has wavered.
That said, Reddit is aware of the risks, and there isn’t necessarily a correlation between Robinhood’s declining stock price and offering more to the public early, Stanford says. After all, Reddit has become the go-to place for stock chatter for many retail investors, which has contributed massively to the performance of companies like GameStop, the meme stock that has skyrocketed in 2021. Stanford expects the quantity of shares made available to them will therefore be a small part of the total.
“I don’t expect this to make the IPO better or worse, but it’s a nice little additive they can do,” he says. “They saw what happened in the threads on their platform. They are hyperaware of the possibility.
‘Ride the wave’
Stanford said he hopes Redditors with access to stocks are also equally aware of the risks of investing, including how long the lock-up period is. If they buy, say, $25 a share and the stock rises to $35 the next day, they can’t cash out immediately. And in the meantime prices could drop.
“If there’s a two-month lockout period, they have to ride the wave,” Stanford says.
“The market price and trading volume of our Class A common stock may experience extreme volatility for reasons unrelated to our underlying business or macroeconomic or industry fundamentals, which could cause you to lose all or a portion of your investment if you are unable to sell your shares at or above the initial offering price,” Reddit’s S-1 notes.
The filing comes just as Google and Reddit announced they were “deepening” their partnership, in an effort to make it “easier to discover and access the communities and conversations people search for on Reddit” through Google products, like Search.
Speaking of Google, in 2004 the technology giant now known as Alphabet had its famous “bizarre” IPO that involved auctioning off shares to both retail and institutional investors.
Becoming Dutch
An IPO is traditionally underwritten by one or more investment banks who certify the quality of the investment. Institutional investors who buy before the IPO typically have connections to those underwriters, who determine the initial stock price, which Google’s leadership deemed unfair. Instead, they used a Dutch auction. Simply put, this is when a company collects bids from interested investors for how many shares they want to buy and at what price, and uses those bids to determine the highest price at which the offering can be sold. This is risky because if the public doesn’t think you’re worth much, well, you’re not.
Due to a confluence of factors: bad press, the public didn’t really know what Google was doing, an ill-timed interview with Playboy which caught the SEC’s attention: the IPO was a disappointment. Google went public at $85 per share, lower than the company’s original price forecast of between $108 and $135. By the end of the first day of trading, the stock was up 18% above $100 – respectable but, as research has shown, average.
But that disappointment didn’t last long. In late 2004 the stock took off. However, the Dutch auction method, although used by few other companies in the US after Google, is not very popular.
Spotify had a non-traditional IPO in 2018 when it opted for a direct listing, allowing existing shareholders to sell their shares directly to the public, rather than through underwriters. Thus, “any potential buyer of shares could place orders with his broker of choice, at whatever price he thought appropriate, and such order would be part of the process of setting the price in the market.” [New York Stock Exchange],” Harvard lawyers wrote in a case study of the company’s offering.
Like Reddit’s move, Spotify’s was made, in part, to appeal to its user base and make the IPO process more transparent and inclusive. “By almost any standard” Spotify’s IPO was a success, CNBC wrote a few months later. Airbnb is another company that conducted a successful IPO by allowing market users to buy early.
Other Silicon Valley companies have followed suit, and Reddit hopes its IPO is similarly successful.
“We will go public to advance our mission and become a stronger company,” Huffman wrote. “We hope that going public will provide significant benefits to our community as well.”