Why Aren't Founders and Boards More Pissed About Day 1 IPO Pops?

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Here’s a brain teaser for you.

Today, you are worth $500,000. Tomorrow you are worth $50 million

(Footnote: You could have been worth $57 million)

Are you mad?

The official name for this in cognitive psychology is Prospect Theory. It was made famous by psychologists Daniel Kahneman and Amos Tversky in 1979. Kahneman eventually won a Nobel Prize for the work. Tversky almost certainly would have been standing next to him had he not died six years earlier.

Prospect Theory turns out to be very important when thinking about Day 1 IPO pops. It helps explain why boards and founders don't get nearly as pissed as the public when there’s money left on the table.

Jay Ritter, Director of the IPO Institute at the University of Florida, and his colleague Tim Loughran have spent decades studying this phenomenon. Ritter’s IPO database covers U.S. IPOs going all the way back to 1980. I asked him about this phenomenon on the podcast.

To set the scene, they define money left on the table as:

It's effectively the value transferred from the pre-IPO shareholders to the investors lucky enough to receive shares at the IPO price.

Here are the metrics:

That's enormous.

So what gives?

For context, an IPO process typically takes around six months. At the beginning, the company hires underwriters and starts talking valuation. The bankers put some numbers on the board and execs immediately start doing mental math against however many shares they own.

Say you’re the CTO and co-founder. You own 2 million shares.

The bankers initially tell you the company could be worth about $15 per share.

You start thinking:

I’m worth $30 million bucks. Word.

Then the IPO process trudges into months three and four. Investors are eating up the story. The roadshow is approaching and demand looks swell.

Now the bankers think investors might value the shares at $25!?!

But they want to make sure the IPO is oversubscribed, so instead of going all the way to $25, they recommend pricing it at $18.

Your paper wealth just went from $30 million to $36 million.

Are you pissed?

Of course not.

You just “made” $6 million in a matter of weeks.

Never mind that if the shares immediately trade to $25, your stake is really worth $50 million and the company arguably could have sold those IPO shares for substantially more and put that extra capital on its balance sheet to, you know, do more business stuff.

But remember… $50 million was never the number you had in your head…$30 million was your anchor.

I think it’s fair to surmise that underwriters benefit enormously from this psychological setup. Management teams experience the IPO pricing process as a series of upward revisions to their wealth, even while the company may ultimately be selling its shares substantially below where the market is willing to value them.

Another crazy stat: The average IPO leaves roughly twice as much money on the table as the direct investment banking fees paid by the issuer.

That’s another way of thinking of the banker’s effective “fee”.

And from the outside, we experience the IPO completely differently.

We see two numbers:

From our vantage point, that looks insane. A rational person would immediately ask why they didn’t just sell the shares for more.

But we weren’t there for the six months leading up to it. We didn’t hear $12, then $15, then $17, then finally $18, while mentally marking up the value of our own shares each time.

The founder most def did.

To make this more concrete, I pulled 15 of the most recent tech IPOs and their Day 1 pops.

Compared with Ritter's long-term figure of roughly 21 cents left on the table for every $1 raised, this recent group left about 25 cents on the table for every $1 of IPO proceeds.

And that's despite SpaceX massively weighting the denominator. SpaceX alone represents about 81% of all the capital raised in this sample and had a relatively modest 19.2% pop.

Take SpaceX out and the result gets nuts:

The non-SpaceX companies in this cohort effectively transferred almost 49 cents to IPO investors for every $1 of stock they sold.

Now, it’s all too common for investment bankers to write back to me and tell me I’m an idiot. I've had more than one of them on the podcast and we are now good friends.

So, in their defense, there are legitimate reasons for IPOs to pop.

Bankers actually grew up calling this the IPO discount, rather than the IPO pop (which is telling in and of itself). Investors can always put their money into companies with years of public trading history, so you throw them a discount bone to compensate them for taking the risk on something new.

You also want the deal oversubscribed. If you price an IPO to perfection, you leave yourself zero room for error, and if it immediately trades down, you've created a pretty terrible first impression.

Price discovery is imperfect too. Everyone gets to call the IPO mispriced after seeing the closing price. I also like to criticize Drake Maye for throwing three picks after he’s already played Seattle.

And Day 1 is a pretty weird market. There’s only so much stock available, insiders are still locked up, and everyone who wanted more shares in the IPO is now fighting with thirsty retail buyers and momentum traders to get them in the open market.

A banker friend of mine argues you should wait until roughly the third earnings report before deciding how big the IPO discount actually was. By then, management has reported a few times, the typical 180-day lockup has expired, and more shares have made their way into the market.

Figma closing at $115 after pricing at $33 tells us there was WAY more demand for Figma stock than there was stock available on July 31st. It doesn't necessarily tell us Figma was worth $115 per share…. Which has taken me like a year to concede.

Especially if the closest public comp trades at 15x revenue and the newly public company suddenly trades at 50x. Good luck convincing long-term institutional investors to buy hundreds of millions of dollars of stock at that valuation just because momentum traders eventually did.

Most importantly, you aren't selling the entire company. If you float 10% slightly cheap but the offering creates liquidity and supports the value of the other 90%, whoopdie do.

So I'm not arguing that every Day 1 IPO pop represents incompetence. Some level of underpricing is perfectly rational.

Because the IPO price isn’t supposed to be the absolute highest price you could squeeze out of investors. If that were the goal, we’d just run a Dutch Auction, which is a topic for another post.

The better question is: What was the company actually worth, and when should we measure it?

But at some point, a successful offering becomes a very, very expensive form of price discovery.

If you price at $33 and close at $36, fine.

If you price at $33 and close at $115, I have some Q’s.

And perhaps the most interesting part is that the people theoretically getting screwed are psychologically the least likely to feel screwed.

Which totally put me in a mental pretzel…

Because they’re too busy getting rich.

In this episode of Run the Numbers, I sit down with Jay Ritter, “Mr. IPO” who has studied public offerings for more than 40 years. He breaks down what Apple, Nvidia, the dot-com boom, and today’s AI giants can teach us about IPOs, why companies leave money on the table on day one, why firms stay private longer, and what the data actually says about long-term IPO performance.

Wishing you trade at a high revenue and EBITDA multiple,

CJ