At the risk of making the biggest understatement of the year, investment banks aren’t popular. That will come as a surprise to absolutely no one, unless some investment bankers drank too much of the Kool-Aid and are completely oblivious.
The reasons are myriad, but many of the reasons we should despise them are pretty obscure, hidden behind a veil of marketing and a very profound lack of information on the part of small investors.
The other day I heard a prime example of why this reputation is well earned in an obscured part of the market. In this case it has to do with initial public offerings.
IPOs are seen by most as the first time anyone outside of a company insider, or venture capitalist, gets a crack at owning shares of a company.
Unfortunately for them, the term itself is very misleading. Members of the public often get access to these shares well before a company is publicly listed through a stock exchange.
These are private deals that are open to everyone, if you know when to contact the right person in a company.
As for this prime example, it comes from one of the best breweries in the USA — the Boston Beer Company — which is widely credited for starting the modern craft beer trend.
Here is the story of how the Boston Beer Company helped some everyday beer drinkers beat the bankers, and why we should all take a cue from it.
A Better Beer
In 1984 Jim Koch did something that seemed awfully stupid. He decided he was going to make a better beer.
Jim Koch’s dad was a brewer, the fifth in a family line. As the beer industry consolidated to watery swill, he had to move from company to company as the breweries closed.
Meanwhile, Jim went his own way. He lived frugally for a time, traveling and working with Outward Bound. Eventually, he went back, got his MBA, and lived a cushy, first-class life as a business consultant.
After six years, had something of an epiphany, realizing that he didn’t want to do this for the rest of his life, and that probably meant he shouldn’t do it tomorrow.
So he decided to start his own business, and didn’t know what to do. He saw an article about Anchor Steam, a small brewer doing well, and decided to tap into his family roots, become the only sixth generation brewer, and get into the small beer business.
His dad thought it was the stupidest thing he’d done in his life, but he came around in the end.
At the time, the big brewers were making very light beer, and his plan was not to compete. He wanted to resurrect the old family recipes, and take on the highly-regarded imports, which were typically stale by the time they made it to the USA.
His dad led him up into the attic, pulled out a trunk, and found Jim’s great-great-grandfather’s recipe. It was the lager recipe to use.
By the time the experimentation was done, and it was time to start selling it, he had no business phone, no office, and one employee. He rented space in other breweries.
Six weeks later, Sam Adam’s Lager was recognized as the best beer in America.
Mr. Koch thought it would take five years to a bring in $1 million in sales. It ended up taking five months.
About 10 years after the stellar launch, and what would become the start of a movement, Mr. Koch decided it was time to go public.
Here is How It Went Down
This is where we come to how IPOs are a prime example of why skipping the investment bank-controlled IPO is the thing to do.
In an interview with the “How I Built It” podcast from NPR, Mr. Koch told the Boston Beer Company story. The host, Guy Raz, asked:
“About a decade after you launched, you decided to go public. Tell me what happened? Why’d you decide to do that?”
Here is Mr. Koch’s reply:
“I thought it was time to do something to reward my investors, because at that time, I think, a dollar invested was probably worth $400. So, I went to a couple investment banks. They describe the IPO process. But when they describe it to you, you realize that there is nothing public at all about it.
“It is all for their buddies at the big institutions to buy the shares and make a bunch of money, and that bothered me. And I thought, “I’ve got to find a way around that,” so I started thinking about it, and I came up with this idea.
“So we put coupons on the 6-packs that allowed you to buy 33 shares of Boston Beer Company at $15 dollars a share. So it was $495. You just had to send in a check.
“And the investment banks freaked out about it, they told me you can’t do it, it will never work, they give me all these reasons not to, but I stood my ground, I was insistent, and I knew that the investment banks are going to make money on this, so they will let me do it if I refuse to compromise. So I refused to compromise. Eventually they all came around, and we got 130-some thousand people who sent in the checks. We got $65 million dollars.
“And that was the first time something like that had been done. And other people have continued to do it, followed up on it.”
Picking Who Profits
What Jim Koch did was great for Sam Adams’ fans, and anathema to the investment bankers who are used to completely dominating the entire process, and making a small fortune just to transfer shares as matchmakers.
One of the underwriters, Goldman Sachs, flat out refused to handle any of the shares offered directly to customers.
Unfortunately, of those 130,000 people’s checks, worth $65 million, only about 30,000 were able to get in on the 990,000 shares that were set aside.
Once again, Boston Beer Company underestimated its demand.
The rest went through the normal IPO process, and were marked up to $20 a piece, creating an immediate 33% upside for the small investors.
The investment banks took a big cut of the $5 markup on the 2.9 million shares they handled, and cashed out further shortly after the IPO shares were trading in the $30s, before fading to lower prices.
Today, those shares trade for just under $156, and have about an 11.5% combined annual growth rate. For comparison, the S&P 500, even with dividend reinvestment, is around 8.2%.
The Boston Beer Company story is about as charming as it comes, and unfortunately, not every company can do something as novel as sending out coupons on six-packs to people with discerning tastes.
However, there are plenty of private deals just like this open to the public, often well before an IPO, and at much lower prices than what becomes available from investment banks through public stock exchanges down the road.
Nick has been very active in these early private deals, with great results, including: 211% on Golden Leaf Holdings, 153% on Captiva Verde, 80% on Natcore Technology, 531% on K92 Mining, and 480% on Lithium X.
The open portfolio has another five triple-digit gains, and six double-digit gains as well.
