IPO Basics: Tracking Stocks

Closely related to a traditional IPO is when an existing company spins off a part of the business as its own standalone entity, creating tracking stocks. The rationale behind spin-offs and the creation of tracking stocks is that in some cases individual divisions of a company can be worth more separately than as part of the company as a whole. For example, if a division has high growth potential but large current losses within an otherwise slowly growing company, it may be worthwhile to carve it out and keep the parent company on as a large shareholder, and let it raise additional capital from the public. For example, during the dotcom bubble, many established companies that created internet subsidiaries spun them off, such as Walt Disney Corp. (DIS) which issued a tracking stock for its internet property Go.com. Telecom companies AT&T (T) and Sprint also once created tracking stocks for their wireless divisions. These tracking stocks no longer exist, since they’ve either been acquired by other companies, or have gone out of business.

From the parent company's perspective, there are many advantages to issuing a tracking stock. The company gets to retain control over the subsidiary but all revenues and expenses of the division are separated from the parent company's financial statements and attributed to the tracking stock. Importantly, if the tracking stock rockets up, the parent company can make acquisitions with the subsidiary's stock instead of cash.

While a tracking stock may be spun off in an IPO, the mechanics are not the same as the IPO of a private company going public. This is because tracking stocks usually have no voting rights, and often there is no separate board of directors looking after the rights of the tracking stock. This doesn't mean that a tracking stock can't be a good investment. Just keep in mind that a tracking stock isn't a normal IPO.