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Fortress IPO Opens The Gate

Fortress Investment Group is the first hedge fundin the United States to launch an IPO, opening the high-priced – and high risk/reward – world of hedge funds and private equity to the individual investor. If the company's deal does well, as many IPO analysts expect, it is almost certain to spark a flurry of similar offers.

Most individual investors don’t meet the minimum standards to invest in a hedge fund – net worth over $1 million and a stratospheric annual income – but the planned IPO gives the small investor a chance get a piece of the action by betting on the jockey rather than the horse. First and foremost, Fortress Investment Group’s IPO is a bet on the company’s top management. Investors will share in the company’s profits, or loses, but won’t be investors in the funds.

Fortress Investment will be a strong deal and the buzz is that it’s oversubscribed. If so, that will create a strong opening and solid first day returns, even if it’s nothing like the days of Internet mania. But at this point, no similar companies have filed to go public.

So, investors with a stomach for speculative deals like Fortress, might want to jump in early in the cycle or stay out because Wall Street typically leads with its best deals and quickly shovels out a string of so-so offers followed by even less promising ones. Remember that eBay surged about 160% when its IPO opened in September 1998 and was quickly followed by companies few now remember.

“People are wired about the first opportunity to buy a hedge fund in the United States,” says David Menlow, president of IPOfinancial.com in Millburn, N.J. “They’re buying into management’s expertise – not the fund itself.”

Wesley Edens, Robert Kauffman, and Randal Nardone founded Fortress Investment Group in 1998. It expanded into hedge funds, real estate and debt securities as assets grew.

The company has strong backing. On January 17, Nomura Investment Managers U.S.A., a subsidiary of Nomura Holdings, paid $888 million for a 15% stake in the company. It will hold about 13.7% of the company’s stock upon completion of the IPO.

Pros And Cons

Fortress Investment plans to pay quarterly dividends based on its performance, a huge draw for IPO investors who often place their bets on unproven companies in sectors that may not develop as hoped.

But Fortress Investment’s deal comes with some risk. Assets grew to $29.9 billion last September from $1.2 billion on Dec. 31, 2001, a 2,391% increase. In its registration statement filed with the Securities and Exchange Commission, the company notes that such growth “may be difficult to sustain” and smart investor won’t count on similar numbers in the future.

Tom Taulli, author of Investing in IPOs, would skip the deal and stick with a proven winner.

“If I wanted exposure to private equity, hedge funds and other ‘big boy’ investment vehicles, I’d buy Goldman Sachs ,” Taulli says. “It has a tremendous team, a global footprint and a solid history. And remember that if the Little Guy had invested in an S&P 500 index fund last year, he would have done better than the majority of hedge funds – and without the high fees.”

Fortress Investment Group of New York raised $634 million late Thursday, pricing 34.286 million shares at $18.50 each, the top of the expected range, through underwriters led by Goldman Sachs and Lehman Brothers. The New York Stock Exchange Symbol is FIG.

The stock starts trading Friday.

Fortress Investment expects to raise $533 million in the IPO and plans to use net proceeds to repay debt, to bulk up existing private equity funds and for general corporate purposes.

The deal is likely to trigger something like the rush to California’s gold fields in 1849 or the Alaska Klondike in the 1890s – and remember the lesson of the 49ers and those who flocked north. The first to reach the newly discovered gold fields had a chance to strike it rich, but most of the hordes who flocked in later and came up empty. General skepticism aside, Fortress Investment's immediate prospects look good.

“I think this is an excellent opportunity if an investor wants to be involved in a hedge fund,” says Menlow. “No one will ask IPO investors about their liquid net worth. So if you want to buy 100 shares and live vicariously in the hedge fund world, Fortress Investment’s IPO is an excellent proxy.”

The deal brings the company out of the private, and some would say, opaque world of private money, inviting a level of transparency and scrutiny many private equity or hedge fund managers shun.

Without speaking to Fortress Investments' intentions, Menlow offered one plausible explanation for going public.

“IPOs provide a basic exit strategy for the principles,” says Menlow. “It’s a way for them to monetize their investment. Rather than go to a larger company and say, ‘Buy me out’ and thrash around to come up with an accurate valuation, taking the company public will provide a daily, up-to-the-minute valuation in the equity market.”

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