Renren’s IPO: Welcome To The New Net Bubble

The big story yesterday was the listing of China social media firm Renren. Those of you familiar with mass hysteria phenomena will see some familiar elements here. The first thing that I think of is the Net boom 10 years ago.

Is the same thing happening now? Sounds like Forbes’ Russell Flannery thinks so:

Chinese social media site Renren soared on its U.S. trading debut today, leaving the money-losing company with a valuation of several billion dollars and perhaps destined to enter the lore of mania akin to that of the U.S. Internet frenzy of the 1990s.

The company today listed at the New York Stock Exchange, where no doubt relatively few of its investors can even read Renren’s Chinese-language content.

Renren lost approximately a dollar for every dollar of business that it did last year. Revenue totaled $76 million, compared with a loss of $64 million, according to its prospectus.

I think he has some good points there. Aside from the legal/corporate structure issues that I always talk about, this is a company with some serious business-related question marks.

My favourite quote is from an FT article on the IPO:

“You can say it’s overvalued, but people are going to buy it anyway,” Darren Fabric, a Chicago-based managing director at IPOX Capital Management, told Bloomberg.

That does sum it up well, doesn’t it? Welcome to the new Net bubble. Revenue? Not to worry! It’s all about market share, number of users, traffic. And of course, it’s relatively easy to boast huge user numbers (I’m talking tens of millions for lots of sites, with Renren in the triple digits) in a country like China. But when you focus on the big numbers, you wind up with very two-dimensional advice like this.

Those huge numbers also help to divert attention away from what would otherwise be troubling revenue-per-user ratio (about 4 bucks for Facebook and 80 cents for Renren, according to the FT).

Of course, those aren’t the only things Renren is dealing with these days, as explained by the Wall Street Journal:

Renren seems to have some very serious questions surrounding it. As Lynn Cowan reported for Dow Jones Newswires on Tuesday:

Renren is coming to market amid a string of data and accounting-related issues raised in the past week. On Tuesday, Renren’s audit committee head said he had resigned, following Citron Research’s allegations last week of financial fraud at his own company, Longtop Financial Technologies Ltd. (LFT).

Renren last week also changed a key data point in its prospectus, saying its user base rose 19% in the first quarter, compared with a previously reported growth rate of 29%. The prospectus didn’t explain the reason for the change, but it came after some analysts and investors questioned the accuracy of its figures.

Renren also disclosed a material weakness related to insufficient accounting personnel, and a significant deficiency stemming from not having a formal policy for treasury functions and investment of its cash.

Shit, who wouldn’t want to invest in that?

So why did Renren do so well yesterday? Here’s my short list of explanations:

1. People are overconfident and always think they can bail out of a bubble before it pops.

2. Good investments are hard to come by.

3. Lots of people live in China.

4. Investors are sheep and easily manipulated by investment banks.

5. No one does enough research; why bother if you’re going to flip it quick anyway?

I’m sure there are other reasons. Those are my favourites, although let’s be honest, I could have just stopped at #1.

OK, but really, why is anyone buying this crap? The Wall Street Journal interviews Morningstar’s Bill Buhr:

“There’s been a lot of concern, and not just with Chinese IPOs, about the potential for fraud with these kinds of terms. But Chinese IPOs have had a really, really strong performance.”

Long-term investors might ultimately shun such companies over concerns about material weaknesses, but, for now, Chinese IPOs in the U.S. have had huge momentum with short-term traders. The last 20 Chinese IPOs to list on U.S. exchanges averaged returns of 22.1% on their first day of trading, according to data from Dealogic. And while many have made such disclosures, they have managed to keep up performance.  Over three months of trading, the 15 most recent Chinese IPOs have averaged a return of 18% since their IPO — of course, the numbers varied widely from apparel maker China Xiniya Fashion’s decline of 53.3% to Internet television company’s 236.7% gain.

I’m not sure Youku is such a great example. Another company that is not only a money loser, but one that doesn’t even know how to get to profitability (my opinion – I’m sure they have an official answer to that question).

My problem as a lawyer is that I can’t really relate to a short-term strategy. Corporate lawyers don’t usually think that way, we try to assess risk regardless of timelines (although there are exceptions). I wouldn’t want to write a legal memo to a client and say “You might be royally screwed if you hold onto that for a while, but in the short term, you’ll probably be fine.”

So Chinese Net stocks are doing well in the short run because of mindless hysteria, and therefore folks looking for a quick wham-bam-thank-you-ma’am saw Renren as a good deal. There were also a lot of other folks who didn’t even think about the risk and just thought “China . . . Internet . . . millions of users . . . must buy . . . “

I suppose the smart guys will get out in plenty of time. For the folks left holding the ball when the ceiling caves in (how’s that for a mixed metaphor?), it’ll be ugly.

Good luck!

If you can stomach it, more China-related cynicism and sarcasm can be found at Chinahearsay and on Twitter @chinahearsay.