Markets were all a twitter yesterday about the Twitter (TWTR) IPO. Not surprisingly, huge attention was focused on the public offering of the social media company that has become a household name. For many, however, all of the fuss has obscured one basic fact…despite being in an industry that is all the rage, Twitter has yet to make a profit. Those that were lucky enough to get shares at the $26 offering price are sitting pretty, with a return of over 70% on their investment, but what about those who didn’t? Should they buy over the next few days or look elsewhere?
While all of the attention was on TWTR, three other companies went public in their shadow. One of them is, in many ways, the opposite of Twitter and if I were forced to invest today, I would rather put my money there. LGI Homes (LGIH) rung the opening bell on the NASDAQ floor yesterday and the stock, with little attention paid, quietly gained over 17% on their first day of trading.
The reason I say LGI is the opposite of Twitter is that rather than being in a trendy, booming business, but never making money, LGI has operated in one of the most depressed sectors, but consistently reported growth and profits. The management rightly boasts in their S-1 filing, “According to Builder magazine, we were the only homebuilder among the 200 largest U.S. homebuilders to report closings and revenue growth from 2006 to 2008 when the housing market experienced a significant decline.”
Call me old-fashioned, but I would rather put money into a company that has a proven ability to make money in a cyclically depressed market than one who is enormously popular, but still trying to work out how to cash in.
LGIH is based in Texas and primarily makes starter homes. Amid a much heralded recovery in the housing market, that is one area that has stayed stubbornly depressed. Stringent mortgage lending standards make it difficult for first time buyers to finance a purchase, so the recovery has been slow to take hold in that area of the market.
The irony is that, while the rising interest rate environment that many expect in the next few years is generally assumed to be a negative for housing stocks, it could be that a company like LGIH would actually benefit from a modest rise in rates. Bank lending, like most financial decisions, is a matter of balancing risk and reward. In the case of first time home buyers, the risk remains fairly static, but low interest rates mean that the reward is depressed. Gradually rising rates would put that equation back in balance.
You may believe, however, that despite yesterday’s gains, TWTR is still more likely to look like Google (GOOG) in a few years than any dotcom issue from 2000… and you may well be right. I have some reservations about investing in trendy things, but the aforementioned GOOG has shown that trendy tech companies can endure and be tremendous long term investments. Even if that is the case, however, success on the day of an IPO usually means that there will be an opportunity to buy a stock cheaper in the near future.
In the third quarter of this year, the IPOs which have shown the biggest first day gains (according to Hoover's) are Sprout Famers’ Market (SFM: +123%), Benefit Focus (BNFT: +102%), Foundation Medicine (FMI: +96%) and Rocket Fuel (FUEL: +93%) Here are the charts for the first month’s trading in those stocks following their IPOs.
As you can see, in each case there was ample opportunity to buy lower than the first day’s closing price. This is hardly surprising. The investment banks that run these offerings have enormous teams of very smart people who place a value on the companies before shares are offered to the public. Do they sometimes get it wrong? Sure they do, but betting against Wall Street consistently rarely has a happy ending for investors. Huge demand equates to huge expectations and at some point, reality has a way of intruding on the party.
Obviously, LGI Homes will never have the size, scope or trendy cache of Twitter, but they have proven that they can make money in tough times and are in a cyclical market that has seemingly bottomed out. Based on that and the first day of public trading, I would rather buy LGIH today than TWTR.