Six big risks Robinhood’s IPO faces (Nasdaq:HOOD) (2024)

• Trading stocks on popular investing app Robinhood’s platform is easy, but making money on the stock of Robinhood itself could be a different story.
• In fact, Robinhood (HOOD) warned in paperwork connected with its upcoming IPO that the company faces nearly 100 business risks, from potential declines in dogecoin trading to the chance that new customers will stop investing once COVID-19 lockdowns end.
• “Investing in our Class A common stock involves risks. You should carefully consider the risks and uncertainties ... before deciding to invest,” HOOD wrote in a U.S. Securities and Exchange Commission filing before listing 74 pages of potential business dangers.
• Some of the largest potential risks that the company disclosed in its S-1 filing include:

Possible Disruptions to ‘Payment for Order Flow’

• Robinhood likes to boast that it doesn’t charge consumers any commission on stock trades, but HOOD has long faced criticism that it makes up for that by receiving controversial “payments for order flow,” or “PFOF.”
• That’s where brokers like Robinhood steer customers’ stock-market orders to specific market makers in exchange for fees even though critics say the market makers don’t always give investors the best available prices on stocks.
• In other words, clients might end up paying too much to buy stocks or getting too little to sell them while HOOD gets money in the form of payment for order flow.

Robinhood relies on payment for order flow instead of commissions. (Photo courtesy of Robinhood)

• Robinhood’s practice of using PFOF has long been known, but the company disclosed in its S-1 that such payments and similar commissions on crypto trades accounted for a stunning 81% of the firm’s total revenues in Q1.

• As such, the company warned that it could suffer from “any new regulation of or any bans on PFOF and similar practices” – a real possibility given widespread criticism of the system.
• HOOD wrote that PFOF has “drawn heightened scrutiny from the U.S. Congress, the SEC, state regulators and other regulatory and legislative authorities.”
• The company also paid a $65M SEC settlement over PFOF in 2019, and has faced private class-action lawsuits over the practice as well.

Any Decline in Dogecoin’s Popularity

• Robinhood also disclosed in its filing that 17% of its Q1 revenue came from transactions involving Bitcoin (BTC-USD) and six other available cryptocurrencies – with 34% of that coming from Dogecoin alone.
• Thus, the company warned that its business could suffer “if the markets for Dogecoin deteriorate or if the price of Dogecoin declines, including as a result of factors such as negative perceptions of Dogecoin or the increased availability of Dogecoin on other cryptocurrency-trading platforms.”

Crypto trading is a big part of HOOD's revenues. (Photo from S-1 filing)

COVID-Era Investors Could Get Bored

• HOOD wrote that the past year’s “market volatility, stay-at-home orders and increased interest in investing and personal finance helped foster an environment that encouraged an unprecedented number of first-time retail investors to become Robinhood customers.”
• However, the company warned that an end to lockdowns, COVID-19 stimulus and/or stocks’ recent record run could reverse those gains.
• “We may have difficulty retaining customers … as a result of [a market] downturn, a lack of access to additional stimulus funds [or] the ability to resume pre-COVID-19 activities,” Robinhood wrote.

Crackdowns on ‘Meme’ Stocks

• HOOD noted in its filing that company co-founder and CEO Vladimir Tenev faced “critical questioning” earlier this year at a U.S. House hearing into the recent wild trading in GameStop (NYSE:GME), AMC Entertainment (NYSE:AMC) and other “meme” stocks.
• “Lawmakers, regulators and other public officials have recently made statements about our business and that of other broker-dealers and signaled an increased focus on new or additional laws or regulations that, if acted upon, could impact our business,” Robinhood warned.
• For instance, the firm said SEC Chairman Gary Gensler has said his agency is considering new rules regarding the “so-called gamification” of stocks, as well as “mobile-app features such as rewards, bonuses, push notifications and other prompts.” Those are all things that critics accuse Robinhood of engaging in.

Service Outages or Trading Halts

• Robinhood has faced bad publicity, lawsuits, fines and threats from politicians over service outages that prevented customers from trading stocks during big March 2020 market days, as well as over a decision to limit meme-stock trades earlier this year.
• “We cannot assure that similar events will not occur in the future,” the company noted in its filing.

Rising Interest Rates

• At a time when many are forecasting increased U.S. inflation and interest rates, Robinhood wrote in its S-1 that higher rates could “reduce our customers’ ability to satisfy their obligations to us, including failing to pay for securities purchased, deliver securities sold or meet margin calls. [That] could lead to increased delinquencies, charge-offs and allowances for loan and interest receivables” – hurting net income.

Market Watchers Are Wary

• Such risks have some investors vowing to stay away from Robinhood’s stock.
• For instance, Seeking Alpha contributor Golden Panda recently wrote that while HOOD’s decision to offer zero-commission stock trading “was a master stroke, [I] think the issues are too many for me to consider investing in the company for the long term. I'm avoiding this IPO.”