Rosetta Stone's IPO A Winner

Profitable and Growing
Rosetta Stone offers CD-ROM instruction in 31 languages. Perhaps you've seen its ads featuring Olympian Michael Phelps. It grew revenue by 52% in 2008 to $209.4 million and a net profit of $13.9 million. Five years earlier, it produced $25.3 million in revenue and a net profit of $1.9 million. That's compound annual growth rates of 69.6% and 64.5% respectively. No wonder it exceeded its projected selling price of $15-17. It probably could have gone even higher than $18, but why get greedy?

As Francis Gaskins of IPO Desktop put it, "Rosetta Stone benefited from a lack of publicly held competitors." Add to this the success of education stocks in recent weeks, and you have a can't-miss offering. Will it last? (For more information, see How does an IPO get valued?)

History Says No
An IPO study by University of Florida professor Jay Ritter, using data from 1980-2004, shows that the average first-day return of IPOs is 18.4%. The three-year buy-and-hold average return for IPOs is 23.4%. This leads me to conclude that most IPOs produce an additional gain of just five percentage points over the next 36 months. Given Rosetta Stone stock was up 40% in its first day of trading, I'd be skeptical that it could keep up the pace. History has shown it is more likely to see a drop in price in the coming months. Opportunistic investors who missed getting in on the offering would do well to pick some up around its original price of $18. Those that were able to get some shares at $18 may want to consider taking their profit off the table.

Why it's a Winner
Examine the last five IPOs of U.S. companies, going all the way back to August 2008. You'll see that Rosetta Stone's offering was the fairest to new investors. I've written several articles about IPOs. Most often, it's the selling shareholders, rather than the new investors or companies themselves, that benefit. It's good to see an IPO where the business going public gives its new partners a fair shake. Far too often, the selling shareholders get all the benefits with the newer investors getting none. Rosetta Stone management clearly thought this process through seeking to achieve a win/win situation for all stakeholders.

Last Five IPOs

Bottom Line
Rosetta Stone is certainly impressive. With only 5% of its sales coming from outside the U.S.,  it has a clear opportunity to continue to grow its business. If the IPO is any indication, it has a more than realistic chance of doing so. (For more, see IPO Basics Tutorial.)