Spotify has cut out Wall Street banks from its stock market debut – that’s a good reason for us all to get up and dance

Big investment banks are engaged in industrial level cream skimming from stock market flotations. Finally, one firm is refusing to play along

By avoiding raising fresh money from the stock market, the streaming service’s co-founder, Daniel Ek, will swerve having to pay banks to ‘underwrite’ its shares (AFP/Getty)

Want to make the case that financial markets are essentially a giant and terrifying casino into which no sensible person will willingly enter? Then the stock market debuts in recent years of internet companies are your friend.

Facebook went public back in 2012. Within three months Mark Zuckerberg’s social network was trading at only half of its official $38 (£27) “float” price.

Twitter came to market in November 2013. Three months later its share price was up 165 per cent on its $26 starting price. But fast forward another four months and the microblog’s shares were back down to earth with a traumatic bump at $30.

Snapchat went public in March last year, hitting $24 a share on day one of trading. Six months later the millennials’ vanishing messaging service was down around 50 per cent.

Facebook, of course, recovered from that farcical public debut and went on to peak at $155 last year, before its recent data protection imbroglio. Snapchat, so far, has not been so favoured, with its parent company’s shares still languishing at around $14. Twitter is barely above its float price.

Was Facebook worth $80bn on its first day of trading? Then a meagre $40bn six months later? Was Snapchat worth $32bn when it debuted? And only $19bn today? Was Twitter’s $40bn market capitalisation in January 2014 (versus $20bn today) some sort of cruel trick played on investors?

A billion here, a billion there, as they say, and pretty soon you’re talking real money.

And now Spotify is stepping into the gambling den. The Swedish music streaming phenomenon will allow its shares to trade in New York today. Analysts are talking of a valuation of $23bn based on what its shares were changing hands for privately a few months ago. But, as we’ve seen, it could be double that. Or half.

Does this game of capital markets chance really matter? Less than you might think. The way many people think of large public offerings of shares is as a way for companies to raise money to invest and expand. That was true once. But in the modern era, much less so. And it’s certainly not why internet companies go public.

These firms already mostly have sufficient cash reserves (or ready access to such funds from private investors) to expand as rapidly as they need to. The purpose of these blockbuster floats is generally to allow their canny (or lucky) early stage investors and employees who have accumulated stock to convert some of their stake into spendable cash. It’s a private payday, rather than a public fundraising exercise.

To that extent, the first day stock “pops” and subsequent slumps of these companies matters less for the functioning of the real economy than we might fear.

Yet there’s a reason to take an additional interest in the Spotify float beyond the allure of the beguiling internet game of thrones. And that lies in the fact that Spotify is not actually raising any fresh money from the stock markets, but merely allowing its shares to trade publicly. And this is allowing its founders to avoid paying Wall Street and City of London investment banks to “underwrite” its shares.

Underwriting means a group of trading investment banks act as intermediaries between the company and various “institutional” investors such as pension schemes, investment funds and insurance companies.

If the float fails and insufficient numbers of shares are sold, these investment banks agree to buy them up at the agreed float price. Perhaps that sounds like a risky proposition for the investment banks. But it isn’t really – and certainly not considering the billions of dollars and pounds and euros these banks charge for this underwriting service.

In America, banks like Goldman Sachs, JP Morgan and Morgan Stanley slice off around 7 per cent of the money raised. In Europe, the likes of Barclays and Deutsche Bank take 3 per cent. Those extraordinary margins allow the banks to easily absorb even the odd, rare, duff float.

The real question is why companies pay such extortionate sums for a service that analysis shows offers little real value. Is it because the investment banking sector is uncompetitive, and companies have no real choice? Or is it because the company’s executives feel that they are essentially paying with other people’s money and are blithely price insensitive? The OECD suspects the former. But both may well be at play.

Either way, it’s not just the darlings of the new economy that spray unearned fortunes around the financial sector in this way. Provident Financial, a troubled UK financial company, raised £300m last month. The underwriters of this fundraising, Barclays and JP Morgan, shared fees approaching £30m. So almost 10 per cent of the total sum raised. Such industrial levels of cream skimming have led the veteran City commentator Neil Collins to conclude that modern share underwriting has become “a grotesque parody, a cartel for a few investment banks”.

Spotify, at least, has decided to play a different tune today. Whatever your view on this latest darling stock of the new economy and its genuine long-term prospects, that’s a good reason for us all to nod our heads along in support.