Spotify's using a 'novel method' to go public, and it means the stock price could 'decline significantly and rapidly'

Spotify CEO Daniel Ek worried sad

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Spotify CEO Daniel Ek.

Spotify just filed its F-1 form, and the document is full of detail on how the music streaming business is planning to pull off what it calls a "novel method" for going public.

The firm is planning to list on the NYSE without underwriters, without a set price, without a set level of supply of shares, and without a lock-up on existing investors. And those decisions pose lots of risks. Here's how the process differs:

No set price range:

Spotify's planning on using private market transactions to guide shareholders towards an opening public stock price. Still, the range for private transactions between January 1 and February 22 is $90 to $125, a wide range. From the filing:

"No public market for our ordinary shares currently exists. However, our ordinary shares have a history of trading in private transactions. Based on information available to us, the low and high sales price per ordinary share for such private transactions during the year ended December 31, 2017 was $37.50 and $125.00, respectively, and during the period from January 1, 2018 through February 22, 2018 was $90.00 and $132.50, respectively, in each case excluding the Tencent Transactions (as defined herein) ... Our recent trading prices in private transactions may have little or no relation to the opening public price of our ordinary shares on the NYSE or the subsequent trading price of our ordinary shares on the NYSE."

No set supply:

There's also not set supply of securities available.

"There is not a fixed number of securities available for sale. Therefore, there can be no assurance that any Registered Shareholders or other existing shareholders will sell any or all of their ordinary shares and there may initially be a lack of supply of, or demand for, ordinary shares on the NYSE. Alternatively, we may have a large number of Registered Shareholders or other existing shareholders who choose to sell their ordinary shares in the near-term resulting in oversupply of our ordinary shares, which could adversely impact the public price of our ordinary shares once listed on the NYSE."

No lock-up:

And key existing shareholders aren't barred from selling shares with the exception of TME and Tencent, as they normally would be.

"None of our Registered Shareholders or other existing shareholders have entered into contractual lock-up agreements or other contractual restrictions on transfer, except for TME and Tencent. In an underwritten initial public offering, it is customary for an issuer's officers, directors, and most of its other shareholders to enter into a 180 day contractual lock-up arrangement with the underwriters to help promote orderly trading immediately after listing. Consequently, any of our shareholders, including our directors and officers who own our ordinary shares and other significant shareholders, may sell any or all of their ordinary shares at any time (subject to any restrictions under applicable law), including immediately upon listing. If such sales were to occur in a significant quantum, it may result in an oversupply of our ordinary shares in the market, which could adversely impact the public price of our ordinary shares."

No underwriters:

While Morgan Stanley's working as the financial adviser and a designated market maker will help set the opening price, Spotify's not using underwriters. From the filing:

"Prior to the opening of trading on the NYSE, there will be no book building process and no price at which underwriters initially sold shares to the public to help inform efficient price discovery with respect to the opening trades on the NYSE. Therefore, buy and sell orders submitted prior to and at the opening of trading of our ordinary shares on the NYSE will not have the benefit of being informed by a published price range or a price at which the underwriters initially sold shares to the public. Moreover, there will be no underwriters assuming risk in connection with the initial resale of our ordinary shares. Additionally, because there are no underwriters, there is no underwriters' option to purchase additional shares to help stabilize, maintain, or affect the public price of our ordinary shares on the NYSE immediately after the listing. Advertisement

No roadshow:

Initial public offerings usually include a "roadshow," where investment banks managing the sale and company management parade in front of institutional investors. That's not happening with Spotify, however.

"We will not conduct a traditional "roadshow" with underwriters prior to the opening of trading on the NYSE. Instead, we intend to host an investor day, as well as engage in certain other investor education meetings. In advance of the investor day, we will announce the date for such day over financial news outlets in a manner consistent with typical corporate outreach to investors. We will prepare an electronic presentation for this investor day, which will have content similar to a traditional roadshow presentation, and make one version of the presentation publicly available, without restriction, on a website. There can be no guarantees that the investor day and other investor education meetings will have the same impact on investor education as a traditional "roadshow" conducted in connection with an underwritten initial public offering. As a result, there may not be efficient price discovery with respect to our ordinary shares or sufficient demand among investors immediately after our listing, which could result in a more volatile public price of our ordinary shares.

No bookbuilding:

There's no book building process either, meaning that Morgan Stanley won't be taking orders during the roadshow to establish a price.

Because Morgan Stanley will not have engaged in a book building process, they will not be able to provide input to the DMM that is based on or informed by that process. Moreover, prior to the opening trade, there will not be a price at which underwriters initially sold ordinary shares to the public as there would be in an underwritten initial public offering. This lack of an initial public offering price could impact the range of buy and sell orders collected by the NYSE from various broker-dealers. Consequently, the public price of our ordinary shares may be more volatile than in an underwritten initial public offering and could, upon listing on the NYSE, decline significantly and rapidly.

No institutional investors?

Spotify says in the filing that individual investors may have more influence over the opening price than institutional investors, and that this could result in a public price that's higher than big money investors want to pay. That could in turn lead them to short the stock.

"Moreover, because of our listing process and the broad consumer awareness of Spotify, individual investors may have a greater influence in setting the opening public price and subsequent public prices of our ordinary shares on the NYSE and may have a higher participation in our listing than is typical for an underwritten initial public offering. This could result in a public price of our ordinary shares that is higher than other investors (such as institutional investors) are willing to pay. This could cause volatility in the trading price of our ordinary shares and an unsustainable trading price if the price of our ordinary shares significantly rises upon listing and institutional investors believe the ordinary shares are worth less than retail investors, in which case the price of our ordinary shares may decline over time. Further, if the public price of our ordinary shares is above the level that investors determine is reasonable for our ordinary shares, some investors may attempt to short the ordinary shares after trading begins, which would create additional downward pressure on the public price of our ordinary shares."