Trading for HOOD begins Thursday on the NASDAQ Stock Exchange. The price will be set on Wednesday. The company is currently looking for $38-$42/share, which equates to a market capitalization of about $33-$35 billion.
The first meme stock brokerage is going public this week. In an unusual move designed to promote the company’s motto of “democratizing finance for all,” Robinhood is reserving up to one-third of its stock for its own clients. So, should you download the app and place your order?
Impressive Growth vs. Regulatory Hot Water
Robinhood’s revenue growth is very impressive at 309% year over year in the most recent quarter (1Q 2021), rising from $128 million to $525 million. Put into perspective, this should add up to over $2 billion in 2021 revenue. The 2nd quarter 2021 revenue is expected to be $546-574 million, an increase of 129% year over year, and 6.7% sequentially in the midpoint range. 2020 revenues were $959 million, with $7 million in net income.
The company lost $1.4 billion dollars in 1Q 2021, mostly due to a one-time fair value write-down of its convertible notes and warrants. 2Q 2021 earnings will be hit with the $70 million fine imposed by FINRA on June 30, 2021, as well as reserves set aside to settle a money laundering matter with the New York State Department of Financial Services. Robinhood is expecting a 2Q 2021 net loss of $487 to $537 million, according to the S-1 filing. There will also be a one billion-dollar one-time charge in the 3rd quarter related to the IPO’s share-based compensation. With $4.8 billion in cash, and another $2 billion raised in the IPO, Robinhood should have enough capital to pay the fines and keep operating, even if 2021 remains in the red – unless something terrible happens. (With all of the Robinhood outages, trade halts, customer complaints, boycotts and regulators looking into everything, it does indeed seem as if something terrible is always happening. However, the company is savvy about SEO, which helps these stories to stay buried in searches.)
Gamification: Memes, Emojis, Fractional Shares, Free Trading & Gold Margin Accounts
About 50% of Robinhood clients are new to investing. Robinhood makes trading like a game, using emojis, lotteries, confetti, gifts and free stock to lure in retail investors. Unlike other brokerages, Robinhood offers fractional shares and crypto, but hasn’t yet entered into the retirement space. You’ll still have to rollover your IRAs and 401Ks elsewhere, although this is an area that Robinhood is looking to expand into.
Robinhood’s gamification is an effective marketing ploy. However, it’s problematic in the financial services industry. Fiduciaries and regulators are constantly trying to figure out ways to educate and empower professionals and their clients to use risk tolerance and strategy, rather than emotions, to manage their wealth and future. Everything is sunny in a bull market. There are many heartbreaking examples of what happens when stocks head south, particularly with young, less-experienced investors.
FINRA Fines Robinhood $70 Million
On June 30th, 2021, FINRA (the financial services regulatory authority) levied the highest fine in its history on Robinhood. FINRA found multiple violations with Robinhood, including “millions of customers who received false or misleading information from the firm, millions of customers affected by the firm’s systems outages in March 2020, and thousands of customers the firm approved to trade options even when it was not appropriate for the customers to do so.” The false and misleading information included how much cash was in an account, downplaying the risk of trading options and approving margin trades for customers who didn’t understand the risk of a margin call. One Robinhood customer who had turned margin “off,” tragically took his own life in June 2020. According to FINRA, Robinhood had (allegedly) displayed an inaccurate negative cash balance in this investor’s account (and to other customers as well).
There are strict regulations in place for determining whether or not a trader is experienced enough for options and margins trading. Robinhood assigned that task to bots that aren’t the Einsteins of the artificial intelligence industry. Apparently, the bots approved inexperienced traders who did not satisfy eligibility criteria or had other red flags in their accounts.
Halted Trading on GameStop
Other massive problems with Robinhood, which haven’t been problems at other brokerages, are power outages and restrictions on trading. Reddit’s Wall Street Bets traders are still infuriated about the GameStop trading fiasco, when Robinhood suspended trading of the stock during the height of the meme stock Short Squeeze. On March 2nd and 3rd, 2020, at the height of the volatility of the pandemic, Robinhood‘s website and app shut down. $12.6 million of FINRA’s fine is for restitution to “harmed” customers.
Robinhood wrote in a blog on June 30, 2021 that the company is committed to enhanced customer support. Improvements include: more customer service support staff, better education, improved customer alerts and enhanced anti-fraud measures. Part of these measures were mandatory in the deal Robinhood made with FINRA.
Robinhood is receiving a lot of negative publicity on Reddit‘s Wall Street Bets platform which is home to almost 11 million investors and traders. There you’ll find plenty of posts on “Robbing Hood,” comparing the company’s lack of customer service to having Beavis and Butthead as the call-center operators. There are posts with instructions on how to rollover your holdings to another brokerage and delete the app from your phone before the company’s IPO.
No Lockup Period & Minimal Voting Rights
New investors will have minimal voting rights. Existing employees and board members, with the exception of the founders and CFO, can sell up to 15% of their stock in the first day of trading. (The founders and CFO are limited to 5%.) Since Robinhood was founded in 2013, there is likely to be more than a few insiders who are ready to cash in their paper gains for dollars.
In previous IPO insider liquidity events, the stock hits the board and then sinks the first day. Snap’s stock was underwater for 3 years. Zynga has never recovered to its IPO prices. Like Robinhood, Snap enjoyed amazing year-over-year revenue growth at its IPO, but struggled with multi-billion-dollar losses.
There are 17.7 million monthly active users on Robinhood, according to the company’s S-1 filing. There are almost 11 million traders on Wall Street Bets. Will insider selling and the social media boycott doom Thursday’s Robinhood IPO? Should a company that only made $7 million last year be valued at $35 billion?
When new investors rush in, while insiders sell sell sell, it can feel like trying to catch a falling knife. This is an unusual trading year, with an elevated appetite for risk. So, anything is possible. However, I’ll be looking for greener pastures in non-financial services industries for my investments in 2021.
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