The case study "Alibaba goes public" describes Alibaba's debut on the New York Exchange in 2014. It was the largest IPO in history but this initial desire to list on the Hong Kong Stock Exchange was denied due to the company's desire to preserve its partner's control over decision rights.
Palepu, Krishna G.; Srinivasan, Suraj; Wang, Charles C.Y.; Lane, David
Harvard Business School (115029)
12/12/2014 (Revision: 04/17/2015)
Case questions answered:
Please provide your general comments and opinions about the schemes used by Alibaba to go public.
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Alibaba Goes Public (A) Case Answers
Alibaba Goes Public (A) – Case Study
There comes a time for some companies when their shareholders decide they should go public. There are many good reasons for that, such as obtaining financing outside of the banking system for growth and investment or reducing debt.
It can also be an exit strategy for a shareholder, such as in the case of Alibaba, where Yahoo used this opportunity to get out of the company.
This was a very smart move — selling its shares to another company. For example, Yahoo could take months to find a buyer and negotiate an acceptable price.
Although it was not the initial intention, the IPO not being in Hong Kong but in another country was good because it raised brand awareness, used the credibility of mature markets, and broadened the investor basis.
However, some issues arise with the selling of shares. While it is good for the shareholders that stay in business to have the extra money, the potential loss of voting weight in decisions can be a problem, especially if you’re one of the founders and are worried about the long-term survival and development of the company.
The stock markets are mostly focused on the short term, and public companies often have to do harmful things for their long-term survival to increase or keep the stock price high, such as holding back investments.
The idea of Alibaba’s founder was a very good one – going public in the USA, where he could have voting shares with more weight, instead of Hong Kong, which didn’t allow such a practice.
It’s healthy to have such competition among countries, and it can also force some of them to change and modernize their rules or else lose opportunities and a source of income.
The use of a Variable Interest Entity (VIE) was also a clever move because Jack Ma could keep trustworthy people with him, giving them part of the earnings of the company and, thus, making them strive to always do their best to keep the company financially wealthy in the long run, and also keeping with him potentially well prepared and trained candidates for succession, something so often overlooked by companies.
It was more beneficial than issuing shares for them so that they could receive dividends in the traditional way because the owner would lose part of his controlling power.
The VIE also gives access to loans without affecting the balance sheet of Alibaba, and the expertise of foreign investors can lead to technical service agreements for areas not well known by the founder.
A corporation can use such a vehicle to finance an investment, for example, without putting the entire firm at risk, and also legally bypass outdated and protectionist regulations such as the Chinese one that won’t allow foreigners to own ICPs in the country.
But depending on the intentions and ethics of the partners, VIEs can be used for unethical and/or illegal purposes, such as ENRON did, masking their losses in a complex scheme. Other companies could use them to hide their exposure to risk and get better ratings and interest rates.
There are also many companies that have shareholders with great controlling power that force their employees to do acts harmful to the company, such as buying or hiring companies (sometimes controlled by their own family) that use illegal or unethical schemes.
In sum, shares that have more voting power can be beneficial for the company – but only if well used. The vision and interests of the founders can often lead the company to stay on the right path, even if shareholders with fewer voting rights want, for example, short-term profits.
But depending on the people that have such voting rights, the relentless pursuit of growth and profit, including the use of artificial numbers, can bring the company to a big fall, with the owners and operators going to jail and all of its employees being fired.
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