Morningstar Follows Google's Lead


By Adrienne Carter Chalk it up as a win for the small investor. Fund and stock researcher Morningstar announced late Friday, Jan. 7, that it would employ an auction process to sell shares in its proposed initial public offering. It shouldn't come as a surprise to those who know Morningstar, which has long trumpeted itself as a watchdog for the individual investor.

In a traditional IPO, investment banks distribute shares directly to institutional and other preferential clients. But in Morningstar's case, the lead underwriter -- now WR Hambrecht instead of Morgan Stanley (MWD) -- will hold an auction to determine where to set the price and how the shares will be divvied up. In such a method, the upshot is that even the small guys can get in on the action.

"It ties in with the ethos of Morningstar that everyone should have a fair shake," says IPO expert Tom Taulli of CurrentOfferings.com. "It's a fair system from the point of allocation because shares aren't given to the favored funds or individuals, but to those who bid correctly -- whether you're a small fry or a hedge fund."

LOSS OF CONTROL. That egalitarian nature is exactly why the system has never caught on with Wall Street. The system gained notoriety last year when Internet search engine Google (GOOG) took itself public in a similar way. But other than Google's IPO, in which Morgan Stanley and Credit Suisse First Boston (CSR) were the lead underwriters, traditional investment banks continue to snub the auction process.

It's no wonder. If IPO shares were commonly auctioned off, investment banks would stand to lose billions in underwriting fees. But more important, they would no longer control the allocation of precious IPO shares. Indeed that may be the reason why previous Morgan Stanley, Deutsche Bank Securities, and William Blair have all bowed out of the Morningstar deal. "They don't want to validate the process to see it become a trend," says Taulli.

Still, the move couldn't come at a better time for Chicago-based Morningstar. Its reputation as an independent voice in the investment world has been called into question lately, following probes by regulators. Last summer, the Securities & Exchange Commission launched an investigation relating to inaccurate data Morningstar published on a mutual fund.

Then in December, New York Attorney General Eliot Spitzer began looking into Morningstar Associates, a group that provides advice and consulting services to retirement plans. Spitzer's subpoena sparked speculation that Morningstar accepted fees from mutual-fund companies for recommending their products to 401(k) plans.

MARQUEE DEAL. Neither issue has been resolved. But CEO and Chairman Joe Mansueto told BusinessWeek late last year that the company continues to cooperate with regulators. "We have no incentive to favor one fund over another," Mansueto said in late December. "We remain committed to investors."

Morningstar declined to comment about the IPO for this story, citing the quiet period before the offering. But the recent auction announcement may signal that the IPO is forthcoming. Morningstar first announced its intention to go public back in May, 2004. But the deal has remained on the shelf for months. The regulators' actions may have played a part in the delay. But it's also possible that the hangup relates to Morningstar's desire to employ the unorthodox auction method for going public.

Whatever the reason, the auction move is a major public-relations win for Morningstar. It's also a big coup for Hambrecht, which has long been a champion of the auction process. However, it has mainly been involved in only small deals, such as the IPOs of RedEnvelope (REDE) and Overstock.com (OSTK), where it was the lead manager.

But Morningstar is a marquee deal for Hambrecht, one that could potentially bring the auction process into the mainstream. Of course, Hambrecht may not want to start celebrating just yet. Wall Street will still have the last word. Carter is a correspondent in BusinessWeek's Chicago bureau


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