Goldman Sells FreeMarkets Shares While Recommending Others Buy
Washington, June 29 (Bloomberg) -- Goldman Sachs Group Inc. is sending mixed signals to investors interested in FreeMarkets Inc., a Pittsburgh-based company that conducts online auctions for industrial companies.
Goldman, managing underwriter for the company's initial public offering last year, has maintained a ``trading buy'' recommendation on FreeMarkets' stock since early April. Yet, Goldman earlier this month sold more than half its 3.7 percent stake in FreeMarkets, whose stock has plunged more than 85 percent from a January high of 370 a share.
The stock sales don't necessarily contradict the buy recommendation because the shares were sold by a Goldman unit that invests in privately owned companies, said Jamie Friedman, one of the Goldman analysts who follows FreeMarkets.
``The rules that govern the world of private investments are completely different than those for the purely public markets,'' Friedman said. And besides, he said, ``It's a democracy.''
Goldman is just one of many investment banks now playing dual roles for corporate clients seeking to raise money. Bankers such as Goldman invest in companies while they are still private and then, in some cases, serve as underwriter for their initial public stock offerings.
The private investments, usually made 12 to 18 months before the company's IPO, have generated big profits for Goldman and other securities firms. Moreover, the securities firms have sought to stem defections of key employees by allowing them to share in the returns from the private investments.
Roles Can Conflict
Still, the roles of private investor and underwriter can conflict after IPOs take place because the two departments have different priorities. While the underwriter seeks to support the stock after the IPO, chiefly by providing research and recommendations, the private investment group's top priority is to pocket profits from risky bets.
``It's usually a separate arm of the bank that is making the decision,'' said Armando Castro, general counsel of Cyras Systems Inc., a Fremont, California, maker of telecommunications switching equipment. ``When the venture arm decides it's time to sell the investment, they are playing by the rules,'' said Castro, who formerly handled many IPOs for Internet companies as a securities attorney in Silicon Valley.
When FreeMarkets shares reached 370 in January, the market value of Goldman's $6.6 million pre-IPO investment soared to about $512 million. That dwarfed the $13.9 million underwriting fee Goldman shared with Morgan Stanley Dean Witter & Co. and other firms. Goldman then saw the value of its holdings erode as FreeMarkets shares plummeted to 36 3/4 last month. The stock now trades at about 48.
Second-Highest Rating
On June 5, Goldman analysts Friedman and Thomas Berquist repeated the ``trading buy'' rating for FreeMarkets that they had initially issued in April, up from ``market perform'' in previous reports. Trading buy is the second highest rating that Goldman can give a stock, according to Friedman, who works with Berquist. ``It's pretty bullish,'' Friedman said.
Two days later, on June 7, Goldman Sachs Group and affiliate Stone Street Fund 1999 LP sold 921,970 FreeMarkets shares worth $46.1 million, according to a Form 144 filed with the Securities and Exchange Commission. That was the first day that most insiders could sell stock under agreements with the underwriting team for the IPO, according to a FreeMarkets spokeswoman. FreeMarkets shares fell more than 10 percent that day to 50 3/8.
Goldman and Stone Street weren't the only shareholders to sell at the end of the six-month lock-up period. However, the combined sales of all other investors to date total about 260,000 shares, according to SEC data compiled by the Washington Service.
Venture capital firms that provide the initial round of funding to start-ups -- and thus take the biggest risks -- sometimes sell their stakes as soon as they are able, experts said. However, securities firms that buy private shares at a later stage, a practice often followed by the former Hambrecht & Quist Group, now owned by Chase Manhattan Corp., usually sell in small chunks over a long period, according to SEC records.
`Smart Strategy'
In many cases, the securities firms that sell shares haven't held the leading role among the IPO underwriters, a position that carries expectations a firm will back the stock. FreeMarkets hired Goldman as managing underwriter for the IPO, a role that usually involves critical tasks such as setting the price for the stock sale.
While the FreeMarkets spokeswoman declined comment on Goldman's sales, at least one investor wasn't bothered by the transaction. Gulbir Madan, president of Neptune Capital LLC, a New York-based technology hedge fund that recently reported holding 67,700 FreeMarkets shares, said he didn't view the Goldman sales as a negative.
``They cash out of some of their public holdings, and they reinvest in other private deals,'' Madan said. ``I personally think it's a fairly smart strategy.''
So, should FreeMarkets investors follow the lead of Goldman's venture capital unit, and sell their shares? Or should they listen to Goldman's research analysts and buy more?
The company's first-quarter loss widened to $18.1 million from $492,000 a year earlier. However, revenue for the first quarter more than tripled to $10.8 million as the number of customers who use the FreeMarkets service, such as Ford Motor Co.'s Visteon Corp., increased to 47 from 34 on Dec. 31.
Joseph Garner, director of research at Emerald Research in Lancaster, Pennsylvania, expects FreeMarkets' business to grow because customers have found they can save as much as 15 percent by purchasing commodities through the electronic marketplace.
``If you look at the dollar volume going through their system, it's unparalleled right now,'' said Garner, whose firm provides research to institutional investors.
Jun/29/2000 14:53 ET
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