The Incredible Success Of The King Digital/Candy Crush Saga IPO – Forbes
There’s a general view that if a stock opens or closes below it’s IPO price that this is a failure. Similarly, that if it opens above it with a decent pop that this is a success. But this is the wrong way around: that King Digital, the maker of Candy Crush Saga, is now trading below its IPO price is very much a success for the company and its previous owners. The reason people get this the wrong way around is that people aren’t thinking through the game theory of what’s going on here.
King Digital’s stock is certainly down since the IPO earlier this week. It launched at $22.50 and as of right now is at $18.60. This is indeed a fall as anyone who can do math better than Barbie can tell. Therefore those who bought stock in the IPO are nursing nasty losses and there’s probably a certain amount of blood on the balance sheets of the banks that were managing that IPO too.
But why should this be described as a failure? King Digital managed to sell at $22.50, nearly 20% higher than what the market thinks is, a couple of days later, a fair price. King Digital, and any of the early investors, have got more money than we now collectively think they ought to have done. This is a success for King and those early investors.
We can look at it the other way around too. Imagine that here had been a healthy pop to the stock. $5 a share or so, just imagine. That would mean that the company and those investors had sold it for less than they perhaps could have got. This would be a failure on either their part or the part of those advising them as to what the correct price should have been.
As to why I think success and failure get reversed here I think there’s a little bit of game theory to explain it. The point being that the “correct” result of most game theory changes drastically dependent upon whether it’s a one time game or a repeated game among the same participants. Take the prisoner’s dilemma. Two of you are arrested, if no one talks then you’ll both get off scot-free. If you both rat you’ll both get short sentences but if only one rats he’ll get a short sentence and the other a long one. Given that you’re being held separately, incommunicado, what’s the best strategy?
The common answer is that you should both clam up and thus not get a sentence at all. But if this is a game being played only once then you might well say, heck, I’ll rat. Better to not have to rely on one single action by someone I don’t know all that well. And if the game is being played repeatedly among the same participants then the best strategy is tit for tat. I’ll do to him whatever he did to me last time.
Now look again at the three major participants in an IPO. There’s the investors, the market, then there’s the investment banking system that’s doing all the selling and the huckstering. Finally there’s the business and its original investors who are selling some portion of their stock. For that last group, the company and the original investors, this is a one time game. There’s very few of us who bring more than one company to an IPO. But for the bankers and the investors this is a repeat game among very much the same players. The banks are bringing a stream of issues to the market, the investors are continually looking for more deals themselves.
Thus the incentives are different. For the selling investors this is a one shot issue so get the most cash possible now and the heck with the future. But the market and the bankers are repeatedly interacting and in this situation tit for tat works. So, those who have brought to market a stock that drops after the IPO will find it difficult to attract investors to the next one. Those who have provided a pop will find it easier. Thus the incentives for the bankers are to underprice to provide the pop: for the company to over price to gain the most at the outset.
And this is why I think that a fall after the IPO is described as a failure. For from the viewpoint of the bankers it is a failure, it makes their future job harder. And of course it’s mostly the bankers who will be talking to the press about whether it is a success or a failure. But from the point of view of the company selling at a higher price one day than you can get the next is the very definition of success.