A week and a half has now passed — the largest public offering, since the venerable Google. Facebook is now down over 25% from its initial offering price of $38. This was no normal IPO. The amount of public interest was unprecedented. Hordes of retail (a euphemism for unsophisticated) investors wanted in on the site that they visit 15 times per day, figuring that it must be a good company. And, of course, it is. The problem is in the details, or valuation.
Without getting into nitty gritty of forward P/E ratios and all of our fundamental markers, Facebook at a $100bn capitalization is just a bet on its growth of earnings for the next five years or so, after which it will settle into blue chip status, or be obsolete (Microsoft vs. AOL). I can do the maths on necessary earnings growth to get to its valuation, after which it grows at a more normal rate. But even after doing the calculations, I’d then have to evaluate whether Facebook can hit that growth rate by moving beyond it’s desktop ad-based model, and how it can monetize mobile, without severely impacting the user experience. No thanks.
Despite being on the West Coast, I woke up well before the start of the second trading day (Monday, May 21), after which the hysteria of the NASDAQ screw-up had subsided and investors had the weekend to think about their position. They decided they didn’t like it and the stock opened $4 lower. A few things stuck out:
- The claims of losses by Knight and Citadel, both in the $30mm range. These are two of the more aggressive broker-dealers. By definition, trading in a secondary market is a zero-sum game. For those who lost, someone won. Did they lose by not being able to buy (ahead of anticipated customer orders) on the break and sell at $40? Did they promise fills at $38 and buy stock higher than that to cover principal fills? In either case, their customers won, so maybe they will make you whole, if there really was such a loss.
- The clamor by investors for a statement from Mark Zuckerberg about the stock not trading up and the NASDAQ glitch. Talking heads on CNBC were complaining that he should be less concerned about doing hackathons and getting married, and instead should be doing a conference call about stock performance. HA! First off — he never asked for investors who had one-day investment windows. Secondly, all he is obligated to do is file 10-Qs. Try ousting him as Chairman and CEO with your (basically) non-voting shares. He will do whatever he wants. You mean more to him as a Facebook user than investor. He wouldn’t have even bothered with this headache if not for SEC regulations on the number of investors and VCs who were looking to cash out.
- The expectation that the stock would trade up. It typically makes everyone feel warm and fuzzy if an IPO trades up 10-15%. The underwriters can hook up their better institutional and private wealth clients and retail might even be able to make a bit if they buy at the opening bell price (Note: this is not the official IPO price). But this strategy doesn’t maximize for the issuing company. More sophisticated companies are going to maximize proceeds. When an IPO doubles immediately like LinkedIn, money is left on the table. In that case, they floated such a small amount of the stock, it wasn’t too significant. Facebook increased the pricing range and then priced at the top of the new, higher range. They squeezed what they could, the price cleared, and it then traded down. Nice for whichever earlier-stage investors sold it.
- As a variation of the former, a commentator on CNBC was beside himself, saying that the mutual funds had “accreted” Facebook stock at $44 on their books on Friday and “had a real problem” when it opened at $34 on Monday. No shit. I’d argue that it was a real problem that they marked it at $44, when it closed at $38.27. I’d also say it’s a real problem if a professional money manager invests in growth stocks and doesn’t ponder the possibility of them going down. Also, what exactly does it mean to accrete a stock? Please don’t use technical finance terms in an absurdly wrong fashion.
In sum, Facebook priced aggressively. They are a bunch of really smart dudes (and women) who maximized what they could get. Sound familiar? Private equity giants Blackstone and Fortress did the same thing and have never traded back to their IPO price. It’s almost as if the more sophisticated the company, the worse chance of an IPO pop. Stocks are risky. Unless you have edge, you’re more or less gambling, so no complaining when you lose.