MANY LINUX HACKERS MISSED OUT ON RED HAT'S LUCRATIVE OFFERING
By Randall Smith And Lee Gomes Staff Reporters Of The Wall Street Journal
Forget for a moment what you've read about techno-savvy twentysomethings making a fortune on initial public offerings.
When thousands of computer buffs received an offer for what amounted to free money -- the chance to get in on one of Wall Street's hottest IPOs this year -- some of them blew it.
Instead, they wound up fuming -- and flaming -- as the stock of Linux software vendor Red Hat Inc. soared sixfold in its first three days of trading last week, from an offering price of $14 a share to $85.25. For programmers who got in on the chance to buy as many 400 shares, that amounted to a paper profit of $28,500 by the close of trading Friday.
Red Hat's special offer was intended as a means of paying back programmers who have done volunteer work on Linux, the computer operating system that its supporters hope could challenge the dominance of Microsoft Corp.'s Windows. It was also a way of staying in the good graces of the Linux hackers, on whose efforts Red Hat depends.
Spam Scam?
Instead, hundreds of the programmers didn't -- or couldn't -- cash in. Some thought the offer had to be some sort of scam: Martin Bialasinski, a Linux programmer from Germany, posted a note online to a Linux user group asking if anyone else had gotten "this spam from Red Hat about stock options."
Others couldn't scrape together the $1,000 minimum to open an account with E*Trade Group Inc., the online brokerage firm that helped sell the $84 million IPO led by Goldman Sachs Group Inc. Many were rejected after filling out a questionnaire about their personal finances and stock-trading history.
Setting aside 800,000 of the initial six million shares, the underwriters last month went about contacting 3,500 programmers and others, suggested by Red Hat, who are part of the "open source" community that developed Linux. "Red Hat couldn't have grown this far without the ongoing help and support of the open-source community," Red Hat Chairman Bob Young said in a July 20 e-mail. "Therefore, we have reserved a portion of the stock in our offering for distribution online to certain members of the open-source community. We invite you to participate."
'Limited' Experience
Kirk Petersen, a 24-year-old Linux programmer in Seattle, sent E*Trade $2,000 to open an account and answered the computerized questionnaire. He was rejected. He believes it may have had something to do with marking the lowest "liquid net worth" box ($0 to $19,999) and describing his trading experience as "limited."
Warner M. Losh, 32, a software engineer in Boulder, Colo., says he couldn't get money out of his mutual funds in time to meet the deadline. Now he is kicking himself. "I thought it would go up, but not as much as it did," he says. "Now, all my friends are saying, 'You should have asked me. I would have given you the money, and we could have split the profits.' "
Sam Varshavchik, 30, a self-employed computer consultant in Greenwood Lake, N.Y., sent in enough money to E*Trade to buy several-hundred shares, but was rejected even though he reported income of more than $125,000 a year, a net worth of $60,000, a year's worth of trading experience and five years in mutual funds. Mr. Varshavchik says he doesn't know why he was rejected.
Word of the rejections spread quickly among the close-knit community of Linux "kernel hackers." Soon, protests flooded hacker Web sites such as Slashdot ("News for Nerds. Stuff That Matters.") "Isn't it ridiculous to 'invite' a bunch of Linux geeks to buy Red Hat if only experienced traders are eligible? And shouldn't Red Hat have known better?" said one posting. Red Hat declines to discuss the matter.
Mr. Varshavchik was so annoyed that he created a Web site called "E*Trouble," devoted entirely to the Red Hat brouhaha. Another site, called "E*Scam," was set up by a Luxembourg programmer who questioned requirements that participants in the offer reside in the U.S.
In a biting commentary that ran on Salon.com, a Web magazine, C. Scott Ananian, 23, a graduate student at the Massachusetts Institute of Technology who was initially rejected, said volunteer programmers such as him "wrote the software that Red Hat sells. We own the company in a far more real sense than any of the moneyed lords with sufficient 'liquid net worth' to take part in the offering. They're auctioning my software off on the New York Stock Exchange to the highest bidder, and I can't take part!" He added: "Won't someone stand up for the pennyante idealists encountering The Man on his turf for the first time?"
Fudging the Answers
On July 28, E*Trade sent out a follow-up e-mail to rejectees, with a message many interpreted as an invitation to fudge their questionnaire answers. "We are aware that you have recently not passed the online eligibility profile," it said. "Understandably, you are probably frustrated, especially if you feel you've entered a response in error."
"I realized if I filled in my investment experience to the letter, I would get declined," says Matt Welsh, 25, a graduate student at the University of California, Berkeley. He says he did some creative accounting and exaggerated his investing experience when filling out the questionnaire the first time around. It worked; he got all 400 shares he sought.
Mr. Ananian of MIT says E*Trade was "completely unprepared for the demographics of the group" of Linux programmers. He says this is one reason that E*Trade, faced with a backlash, was contacting people and "encouraging them to lie." Mr. Ananian was accepted on the second go-round and was able to buy 400 shares.
An E*Trade spokesman, Patrick Di Chiro, disputes any notion "that E*Trade would be suggesting to any of its customers to give anything less than the truth." He adds, "I think what happens is that some people don't give themselves enough credit when they're putting down their experience. They watch CNBC. They read The Wall Street Journal."
Mr. Di Chiro says the questionnaire was needed because "these IPOs are risky investments, so authorities want to make sure that people are suitable for this." Of the 2,000 people who responded to the initial e-mail offer, he says only 200 were ultimately rejected and didn't get stock.
Too Technical
Even when the programmers did receive shares, the technical intricacies of online investing, which have been mastered by millions of average folk, proved too much for some Linux gurus. Mr. Welsh, the Berkeley graduate student, is one of the world's leading experts on a specialized kind of computer software known as compilers. But on the day of the Red Hat IPO, it took him several hours of staring at his new E*Trade account screen and seeing no activity before he realized that he was looking at the wrong section of the Web site.
Companies built around Linux are watching the Red Hat flap closely. "All this intellectual property has been created by the Linux community. Red Hat recognized that, but got wrapped around the axle in trying to do good," says Fernand B. Sarrat, president of LinuxCare, a Linux service and support firm based in San Francisco.
Linux programmers readily concede that they are a notoriously contentious bunch. Says Russell Nelson, a programmer from Potsdam, N.Y., who got 400 shares: "Put together 100 Linux people, and five will come up with a conspiracy theory -- and they will probably conspire to make sure it is the same conspiracy."
For those who didn't get to buy shares in the IPO, there is at least some solace: In the past two days, shares of Red Hat have fallen a total of $18 to $67.25.