In a March 23 blog post, Robinhood confirmed a previous CNBC report that it had just filed a paperwork with the SEC for an initial public offering. According to CNBC, it will list on the Nasdaq. The prospectus is confidential, so we don’t know the proposed price range, or number of share it plans to float. Robinhood raised $600 million in a VC financing round in September that lifted its value to around $12 billion. It added 3 million new customers in January alone, swelling its roster of users to over 13 million. It’s likely that the Robinhood’s total valuation will reach $50 billion, dwarfing every IPO so far in 2021 and ranking in the top ten since the start of 2020, a banner year for new listings.

An “affinity” program

According to press reports, Robinhood’s planning what appears to be an “affinity program” as part of the offering. Those plans aren’t extremely common, but we’ve seen a few high profile ones, especially in the last few years.

As far back as 1996, Boston Beer offered coupons with six-packs of Sam Adams granting 30,000 customers the right to buy 33 shares each, amounting to 22% of the offering, at a pre-IPO price of $15. That put the little guy at the front of the line. The beer drinkers bought at $5 less than what the funds paid for their pre-IPO shares. Early last year, Airbnb set aside $238 million in pre-IPO stock in its $3.5 billion offering for its hosts, each of whom could buy up to 200 shares. The stock vaulted from $68 to $144 on opening day, turning the maximum $13,600 investment into $28,700, and today it’s trading at $174.

In the U.K., Deliveroo is generating lots of buzz by inviting clients into its IPO. The food-shuttling service backed by Amazon plans to raise around a $1 billion in one of London’s biggest flotations in years, likely to happen this week. It’s earmarked $60 million in shares for people who have already placed orders at the site, or newcomers who click the app to buy its groceries. The four percent or so going to retail isn’t big, but as CEO and founder Will Shu put it: “Far too many normal people are locked out of IPOs, and the only participants are institutional investors. I wanted to give as many customers as possible the chance to become shareholders.”

Affinity programs don’t always work. In 2006, Vonage, a provider of enterprise telecom solutions, made a bold move by reserving around one-eighth of its IPO shares for customers. But the stock cratered 30% in the opening week, and clients who’d been given a few days grace period refused to pay, sticking Vonage with the bill, and unleashing lots of bad press. In 2019, both Uber and Lyft gave veteran drivers cash grants to buy a small allocation of pre-IPO shares, but both stocks performed poorly in the months that followed.

What Robinhood’s offering might look like

We don’t know what portion of the shares Robinhood plans to target for its customers. According to Jay Ritter of the University of Florida, the highest retail allocation in a decade is probably the 25% share offered by Facebook in 2012. Let’s make the assumption that Robinhood wants to go super-big and tells the underwriters that half the shares should go to its community of account holders.

This scenario forms the backdrop for an interesting tug-of-war between Robinhood and its investment bankers, reportedly led by Goldman Sachs. On the one hand, the bankers will want to keep the highest possible number of shares for their own clients, as they always do. “But Robinhood has lots of bargaining power with its underwriters,” says Ritter. “This IPO could raise $3 billion. Even if Wall Street gets half, that’s $1.5 billion in shares to distribute to the funds that give them the most business.”

Wall Street has bargaining power as well––because the pricing apparently follows the pattern of traditional IPOs, if not more so. The bankers have a good shot at getting the broker to steeply underprice its offering, always a paramount objective. “In the pre-IPO negotiations, Robinhood won’t want to push up the price because that would run the risk that its customers would lose money once the shares start trading,” notes Ritter. “It’s easier for the banks to the Robinhood executives not to raise the price that the underwriters propose.” The lower the offering price, the bigger the first day bump. That outcome would be a winner both for the banks and funds, and for the Robinhood fans who bought what are likely to be super-cheap shares.

A huge “pop”

Robinhood is a cult phenomenon for small investors. Say its customers do get to buy half the shares issued in the offering. Ritter says it’s unlikely those folks will purchase a lot more once it starts trading. “Retail investors are different from institutions,” he says. “Big funds will buy more if their allocations are below the total they’re seeking to hold in the long-run, or sell if they’re not long-term holders. If retail investors get a certain number of shares in an IPO offering, they tend to keep them, and not jump into the market on opening day to buy more.”

Once Robinhood debuts on Nasdaq, its shares should also prove a huge hit with the Main Street universe that doesn’t trade at Robinhood, and may be thinking about it, or count themselves as foot soldiers of the revolution it’s launched. “With Robinhood, you’ve got big name recognition with retail investors,” says Ritter. He sees a strong possibility that a surge in Main Street buying pushes prices to heights “unhinged from fundamentals.”

Short of a revolution

A huge, first day pop would be roundly cheered as a triumph for small investors. The rub is that the victory is limited to the Robinhood customers who got the same sweet deal as the big funds. All the other small fry would pay the what’s likely to be the far higher price once the shares start trading. Robinhood would also be leaving tons of money “on the table” by underpricing the shares––hundreds or millions or more of foregone dollars that it could have put into its treasury. Its reported plan to develop an app allowing amateurs to buy shares at the pre-IPO underwriting price in other offerings is unlikely to succeed, since it will clash with Wall Street’s desire to ensure that its own fat cats get the rich milk. “In the past, all the efforts to ensure large retail allocations have fallen on their face because the vested interests of the underwriters, hedge funds and big mutual funds are so hard to overcome,” says Ritter.

The problem with the Robinhood paradigm, at least as reported, is that it hands down a quick score to Wall Street and Robinhood’s clients, but “the rest of the retail world comes in at higher price. It’s limited democracy where only certain people can vote,” says Ritter.

To stand as a true revolutionary, Robinhood should do a “direct listing,” the the vehicle favored by Ritter and venture capitalists led by Bill Gurley of Benchmark. Spotify did a successful one in 2018, as did Slack the following year. In a direct listing, all investors seeking to buy—from hedge funds to the mom and pop contingent—send their bids to the exchange handling the offering before shares begin to trade.

The specialists at the NASDAQ or NYSE hold an auction in the early morning before the bell. The bidding is open to all participants, big and small. The price that establishes the balance between supply and demand is where the stock opens. You don’t have the signature IPO issue of “excess demand,” where the price is so low that funds put in orders for five times as many shares as they’re allocated by the investment banks.

That price discovery process eliminates or minimizes the “pop.” Retail investors who enter when trading starts purchase at almost exactly the same price as small and large investors who participated in the auction. The little guy gets just as good a deal as Wall Street’s favorites. If Robinhood wants real IPO democracy, it should open the door so that all comers, not just its own customers and the Wall Street big shots, are welcome on the same terms.

Robinhood’s proven brilliant at marshaling mass movements. Here’s a chance to start a new one: Transforming the most elitist, non-egalitarian corner of our financial markets.