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Facebook — Not a Disaster, Just a Tale of Old-Fashioned Greed
Facebook — Not a Disaster, Just a Tale of Old-Fashioned Greed
By Beat J. Guldimann | Friday, May 25, 2012
A week ago, Facebook became a publicly traded company on the
NASDAQ stock exchange — putting a valuation of $17 billion on its
founder's ownership stake. Since then, Facebook's stock price has been
sinking, leading Beat Guldimann to question why it was ever so high in
the first place. Could old-fashioned greed have been a factor?
Photo credit: Lev Radin/Shutterstock.com
Mark Zuckerberg has finally done it. Facebook went public in
an initial public offering (IPO) that valued the company at over one
hundred times earnings at an initial offering price that was hiked in
the last hours of the deal going live. This allowed Zuckerberg and
other key shareholders of Facebook Inc. to squeeze a few more dollars
out of an eager public thirsty for new issues in a dry market.
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Companies don't go public in order to make those
who buy their stock rich. IPOs happen for a lot of
reasons, none of which are altruistic.
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Only a few days after the stock traded for the first time, the party
seems to be over. Instead of rising and allowing some lucky speculators
to make a quick buck, Facebook lost a quarter of its value.
Everybody is up in arms. There are the scandalized who are crying
fraud and the told-you-so's basking in schadenfreude. Meanwhile, the
media is labeling the Facebook IPO an epic failure — even a disaster.
Nobody can deny that the Facebook IPO is a bit of a failure. The
stock was supposed to soar in the first few days of trading so that a
lot of early investors could get paid for taking the risk. At least,
that's what the investment bankers' playbook says.
However, the 25% pullback out of the gates is no disaster. To the
contrary, it demonstrates that markets will see things for what they
are. In the case of Facebook, markets were quick to recognize that the
company was simply too expensive. And they did what markets are
supposed to do — correct inefficient pricing.
The story of Facebook going to town is a tale of greed, nothing more
and nothing less. Companies don't go public with the objective of
making those who buy their stock rich. IPOs happen for all sorts of
reasons, none of which are altruistic. Let's look at a few:
First off, there is Mark Zuckerberg, Facebook's founder and its controlling force. Ever since he took Facebook outside of Harvard, his story has been an amazing success. He became one of the wealthiest twenty-somethings on the planet by transforming the way people use social media.
His problem, however, was that the lion's share of the billions he created in personal wealth was tied up in the company. Zuckerberg's motivation for the IPO was to create liquidity and take some money off the table. Selling shares to the public gives him a lot of cash and allows him to reduce the concentration of investment risk associated with his brainchild.
First off, there is Mark Zuckerberg, Facebook's founder and its controlling force. Ever since he took Facebook outside of Harvard, his story has been an amazing success. He became one of the wealthiest twenty-somethings on the planet by transforming the way people use social media.
His problem, however, was that the lion's share of the billions he created in personal wealth was tied up in the company. Zuckerberg's motivation for the IPO was to create liquidity and take some money off the table. Selling shares to the public gives him a lot of cash and allows him to reduce the concentration of investment risk associated with his brainchild.
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shareholders are watching the value of their
investment drop, while Zuckerberg counts his coins
like Scrooge.
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There is nothing wrong with this motivation per se. The problem is
in setting the issuing price at an unreasonably high level, which hurt
the buying public that paid Zuckerberg too much for his stock.
Shareholders are watching the value of their investment drop, while
Zuckerberg counts his coins like Scrooge.
Yes, we understand that Zuckerberg is still a shareholder in
Facebook. As such, he too suffers from the decline in market value. The
difference, however, is that he did not have to pay an arbitrarily high
price for being part of the ride. Even if Facebook were to lose half
its value, he would still be ahead.
Landing the elusive blockbuster deal
Second, we need to look at the investment banks. Morgan Stanley,
Goldman Sachs and JPMorgan Chase led the syndicate that allowed
Zuckerberg to transform his privately-held company into liquid money.
Their motivation was simple. Contrary to what Goldman CEO Lloyd Blankfein famously said in November 2009, investment banks are not
doing God's work. They exist to create profits for their firms and
opportunities for their bankers to earn a living and get paid bonuses.
Adding value to the economy or making future Facebook shareholders happy did not drive the Facebook syndicate. The main driving force for them was to land the elusive blockbuster deal in a dried-up new issues environment and bring in millions in fees that could be generously shared with a few lucky investment bankers in the form of outsized bonuses. It really is that simple.
Again, there would be nothing intrinsically wrong with any of this, had the syndicate not enabled the IPO to be priced at an unsustainable level. Arguably, if the investment bankers had done their job properly, they would have recognized that the issuing price was beyond reason and advised Facebook to go public at a more modest valuation.
Adding value to the economy or making future Facebook shareholders happy did not drive the Facebook syndicate. The main driving force for them was to land the elusive blockbuster deal in a dried-up new issues environment and bring in millions in fees that could be generously shared with a few lucky investment bankers in the form of outsized bonuses. It really is that simple.
Again, there would be nothing intrinsically wrong with any of this, had the syndicate not enabled the IPO to be priced at an unsustainable level. Arguably, if the investment bankers had done their job properly, they would have recognized that the issuing price was beyond reason and advised Facebook to go public at a more modest valuation.
They should also have disclosed their earnings warnings in a
much more timely manner, possibly delaying the IPO altogether, as they
realized that their assumptions were not supported by the reality of
Facebook's latest numbers and forecasts.
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Whether or not IPOs enable future growth of the
company now owned by the public is,
for the most part, just a side benefit.
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The problem is that doing so would likely have meant
lower revenues for the banks, or at least delayed gratification for
those working on the deal. But moderation is not an area in which Wall
Street bankers traditionally show too much strength. After all, Tom
Wolfe refers to them as self-declared "masters of the universe" in his
1987 novel The Bonfire of the Vanities.
And let's not forget the brokerage community. Investment advisors
(or should we just call them stockbrokers?) have been waiting for a
deal like this one for a long time. They always have a number of key
clients that are hungry for an IPO in the hopes of doubling their money
quickly.
The benefit for the brokers lies in the elevated commissions that
are typically associated with initial offerings. Is it any wonder then
that they try to sell Facebook to their clients even at an unreasonable
price?
What this short analysis leaves us with is the realization that IPOs
such as the one we have just witnessed here have one driver. They
satisfy the greed of company owners, investment bankers and
stockbrokers first and foremost. Whether or not they enable future
growth of the company now owned by the public is, for the most part,
just a side benefit.
The single most important thing that the investing public needs to
recognize in all deals like this one is that their interests and
expectations are not usually aligned with the interests of those
involved in bringing the stock to market and selling the IPO. Which
really just brings us back to the tried and tested principle of "buyers
beware."
