Why You Should Not Buy Facebook's IPO
Halina is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Facebook's (FB) IPO is coming and that IPO may debut as soon as May 18. However, you won't be seeing me hankering after fresh-off-the-SEC FB stock shares. Not only will I not be claiming my shareholder stake in social media's newest empire, but I'm highly advising other ordinary Joes/Janes to steer clear as well. Why? Here are my top 7 reasons:
1. You won't get any.
If you think you're going to buy FB shares the minute they're introduced, think again. Those initial shares, which will be priced as low as 6 cents per share, are reserved for crème de la crème investors, venture capitalists, bankers, employees and of course Facebook founder and CEO Mark Zuckerberg. After everyone else gets to strip the meat off of that IPO bone, it will then be thrown to the general public at $28 - $35/share. Hey, there's a reason the available shares are called common shares.
2. Facebook valuation
If Facebook's shares are actually sold at their high end price of $35, that will place a nearly 99 P/E valuation on the company. This would place Facebook at a higher P/E than almost every stock in the S&P 500. And it would also mean, at least according to Mr. Rick Summers of Morningstar, that Facebook could only justify such a high valuation if "the company makes(s) $40 billion in revenue within the next six to seven years while maintaining the same profit margins." Good luck doing that!
3. Who really profits from this IPO?
To truly assess how much you stand to benefit from the Facebook IPO, consider why the company has decided to go public. Sure, Facebook has some long-term plans for the $13.6 to $75 billion that it plans to raise from its 2.1 billion shares. But take a look at the following Facebook investors who will be selling their holdings:
Peter Thiel, who owns a 2.5% stake in the company, will be offering a sizeable portion of his stock on IPO day. If that stock reaches $35/share, Peter will be $271 million richer.
Accel Partners, which owns 11% of the company, will be looking to make $1.3 billion in sales proceeds from its shares.
DST Global, which has a 5% stake in Facebook, will be selling its shares at an estimated $919 million.
Mail.ru Group will be selling its shares for an estimated $392 million.
Most private companies are under constant pressure to go public simply because their investors wish to finally cash out and make a profit on their "on paper" shares. And with Facebook reporting over $200 million in earnings from over $1 billion in sales for this past quarter alone, it's not hard to figure out why certain people want an IPO now.
4. Other profiteers: Morgan Stanley and the state of California- not you
It appears that the firm Morgan Stanley will be top underwriter for Facebook's IPO, a feat that may earn it $500 million in fees. Of course, it does help that Morgan Stanley has some close ties to Facebook through Michael Grimes, a banker at the firm who is pretty close with Sheryl Sandberg, Facebook's COO. Also of note is Erskine Bowles, who does double duty by serving on both Morgan Stanley's and Facebook's boards.
Of course, with top investors cashing in their shares left and right, it stands to reason that California's State Treasury is going to be swimming in capital gains money very soon. This is especially true considering that Facebook's own CEO, Mark Zuckerberg, plans to cover his tax bill for exercising stock options by selling 30.2 million of his own shares (and in the process accumulating as many as 500 million FB shares).
5. Where can FB shares go?
This past quarter, while Facebook did report stellar earnings and revenues, the numbers were lower than the past quarter's. Inside Facebook, an independent news service, chalked up the slower growth to "seasonal changes" like graduations. However, a closer look at the numbers reveals that Facebook's drop-off was largely due to a decrease in advertiser revenue. Also, there is the question of whether there will be, or has there already been, a saturation point to Facebook's growth. Put another way, how many more users can the company hope to gain when it already boasts over 800 million of them?
6. Mr. Zuckerberg
Following Facebook's IPO, Mark Zuckerberg will own at least 57% of the company, placing him in clear control of Facebook's direction and future. That may not be a bad thing, but having a large publicly-traded company like Facebook in the control of one man inherently makes me a little nervous.
7. An IPO is like a soufflé
The soufflé is a wonderful pastry that, when made well, puffs up into a savory nugget of delight. However, the smallest disturbance to the soufflé as it rises can result in a fall from which the pastry will not recover. It is the same way with IPOs.
Each one of these aforementioned technology stocks suffer from what I call "IPO soufflé syndrome", slowly losing ground on their IPO/debut price after investor excitement over the new stock has waned. Examples of IPO mishaps include Pandora Media (NYSE: P), an Internet radio company whose shares debuted almost a year ago to the tune of $20/share and now trade at under $9/share. The stock took a big hit (almost 23%) recently when Pandora reported higher than expected fourth quarter losses and a negative earnings expectation for the coming year. This is something that Facebook investors should also look out for if the social media giant starts slowing down on its expected growth and therefore earnings (if it hasn't started already).
Yandex (NASDAQ: YNDX) (Russia's version of Google) set its stock IPO at $25/share and debuted as high as $38.50/share. The company's stock now trades in the low 20's, which still gives this Russian Internet company a P/E of over 75. It's not that Yandex hasn't captured a good portion of the Russian market as well as made some decent earnings over the past year, but its valuation was simply set too high during its IPO- a sentiment that resonates with many of Facebook's detractors.
Pacific Biosciences of California (NASDAQ: PACB), which started its trading life at $16+/share, is now struggling to reach even $3/share. The life sciences company manufacturers an ingenious platform to detect changes in DNA; unfortunately, its financials (e.g., earnings and cash flow) have yet to catch up with its impeccable technology. The company certainly has revenue coming in but is also spending it on R&D and SG&A (sales, general and administrative) expenses. Recently, the company had to recently settle two intellectual property issues too. Investor optimism about Pacific Biosciences simply fizzled as time went on and the company continued to post negative earnings- something that Facebook might also face as it struggles to expand and grow after its IPO.
I'm not saying that you should never invest in Facebook. What I am saying is that you should wait out Facebook's IPO hype and buy the shares once investors are acting rationally (and probably more pessimistically) again. Let's face it: unless you are affiliated with Morgan Stanley or work at Facebook, the ship has already sailed regarding your acquisition of value-priced Facebook stock. At this point, you're better off waiting for a shift (i.e., spook) in investor confidence or stock valuation. It shouldn't take long.
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