Local Experts Talk Facebook IPO Debacle, Offer Advice

You've likely already heard about the financial disaster that is the Facebook IPO, in different amounts depending on who you are.

If you're a Wall Street savant, particularly one who purchased shares of the social networking behemoth, you've likely been banging your head against a desk as the price of the stock has slipped from $38 at opening Friday to $31 and change Wednesday afternoon.

If you're just a regular, you've likely caught wind of the troubling developments: NASDAQ glitches mucking up sales, accusations of inside favoritism from lead underwriter Morgan Stanley, and most recently a bevy of lawsuits against both that company and Facebook. [Update: Make that a Senate panel investigation too.]

Also, didn't, somewhere in the middle of all of this, Facebook founder Mark Zuckerberg get married, sell a cool billion worth of his shares, and ride off into the sunset? Why yes, it does appear that way.

Did the public just get Zucker-punched?

Enough with the snark, let's get some answers.

Just how foreseeable was this debacle, and will Facebook ever be a good investment? Patch asked some local financial advisors both of these questions, and the answer to the first question was "very foreseeable."

"First there is the issue of the high degree of risk involved in any IPO," says John Myers, President of Woodwell Asset Management in Dresher. "Insiders and clients of the issuing syndicate of underwriting brokers are allotted a large number of shares fixed at the opening price. While many of these shares can't be sold until a future date, a good number can be sold…this was the case with Facebook where initially the price jumped."

In other words, IPOs are primed for volatility if the price jumps at opening, allowing shareholders to make an instant profit.

In addition, Myers said that IPOs are always worrisome, simply because there is not as much information about the business model and profitability as with a company that has been publicly disclosing figures for a longer period of time. This was particularly the case with Facebook.

"Just before the IPO, there was some reporting that revenues, and more importantly profits, were not as rosy as first released," said Myers. "On the Wednesday before the IPO, the Wall Street Journal reported that 57 percent of the shares being offered in the IPO were from individuals or institutions that had received shares from the company. That's an unusually high percentage…in the case of Google's [2004] IPO, the percentage was only 28.

Inside playing?

This problem of quick selling would have been further exacerbated if underwriter Morgan Stanley let out a dimmer prospectus to some clients than analysts originally predicted. That's been the center accusation of a number of lawsuits now piling up, although it is too early to tell their merit.

"Morgan Stanley, along with other underwriters involved with the deal, cut earnings estimates for Facebook sometime before the IPO went public," said Douglas Kaufman, of Kaufman Financial Services in Berks County. "There are indications that Facebook's earning estimates cut was only shared privately with select clients… the only thing we know for sure is that the entire deal is now being investigated by the SEC, FINRA, and the Commonwealth of Massachusetts."

Kaufman believes the motivation may have been high for Morgan Stanley and others to keep the IPO a hot commodity. Even a simple reduction from $38 to $37 in opening price would have cost underwriters roughly $21 million less in underwriting fees, Kaufman said.

"There is no way to know what truly happened until investigations are conducted and made public," Kaufman said. "But we all know that greed can be a major driving force in an individual's decision making process."

Will there be a good time to invest?

Logic says that if a stock tanks, but one believes the company to still be valuable, then that's the time to buy.

However, both Myers and Kaufman say that that time likely isn't now, and urge investors to consider other options.

"As to the longer term prospects for the stock, I am not sure if it is currently a good buy," Myers said. "We just don't know enough yet about their actual revenues and expenses, nor their trends to get a good handle on where the price should be."

Myers said that the stocks of most major companies maintain a price to earnings ratio in the 15-1 area, with major tech companies often receiving higher values. Apple sits at 13.7 and Google at 18.3, while Facebook is reported to be anywhere from 48 to over 100. Given the numbers, Myers believes the price should have been in the $15 to $20 a share range, although he admits that hot IPOs always drive the price up.

Kaufman says his firm also does not recommend buying shares in Facebook.

"Overall, there are better investments than Facebook out there," said Kaufman. "The world has become a global economy, and companies with tangible products that are marketed and sold may be a good choice, before a U.S. company that has not been verified to have revenue or a revenue growing business model."