As revelations about potentially unsavory pre-launch information sharing between Facebook, it's investment banker, Morgan Stanley, and certain well-heeled investors become more widespread, the aggrieved are lawyering up and the accused are feigning indignation. The rest of us should be buying popcorn. This is gonna be a show.
But let's be clear: there are no heroes in this saga. Firstly, no one was forced to buy into the Facebook IPO. This was never going to be a widows-and-orphans stock. The warning signs had been posted: GM's announcement just prior to the event that it was pulling its advertising was mean-spirited (and quite possibly based on FB's rejection of the car maker's appeal for lower rates) but if the ads were actually working, GM would never have taken that action. In addition, as the following article from the Financial Times points out, securities analysts, who might just as well wear jumpers, bobby-sox and pom-poms for all the cheer-leading they do, in this case began reducing their estimates fairly early. If you can not get these guys to issue anything less than breathless encomiums of praise, take a pass on that day's action. So, anyone itching to own a piece of the Like button can not fairly say they were stunned that the stock didnt peak.
As for the seamier allegations, that Nasdaq screwed up the offering because its technology could not handle the volume or that Facebook and/or Morgan Stanley warned off some of their better clients without letting the rest of the world in on the secret, well, welcome to Wall Street. This what those four years of boring arguments since the crisis on the arcana of financial regulation were about. Investment bankers, greedy? Say it aint so!
The technological issues were not due to the Facebook offering per se, but part of a larger, systemic problem involving high frequency trading, institutional capitulation to high volume market makers and abdication of regulatory control in the face of relentless opposition. As for inside information, this is the way the business is conducted. Favored clients are, well, favored. Occasionally someone gets caught, but never anyone senior enough to send a real message of change. It is not supposed to happen that way - and may prove to be illegal in this case - but the smart money is already saying no one gets indicted, let alone sees jail time.
So, eager buyers who disregarded all of the flashing red lights let their ego and greed drive them to participate in an insiders' game they could never win. Facebook and some of its biggest investors got grabby, which led to a surfeit of shares offered at a higher price than made economic sense. The markets and the bankers did what they were paid to do while taking care of their friends - and themselves. Anyone can scream about the unfairness of it all, but if there is to be change, effort and desire not currently apparent will be required. Ultimately, the system functioned as it has for the past couple of decades, which means a few people made money off the rest. Caveat emptor. JL
Richard Waters reports in the Financial Times:
Spare a thought for the Wall Street analysts who turned cautious in the run-up to Facebook’s IPO last week.
More than a decade ago, analysts were roundly criticised for overhyping worthless dotcoms that their employers then foisted on an unsuspecting investing public. So wasn’t it a good thing that the number-crunchers at Morgan Stanley and other banks responsible for leading the biggest-ever tech IPO had the guts to cut their forecasts at such a crucial moment?
That’s not the way angry investors see it. Despite this highly unusual change in sentiment so late in the sale, Morgan Stanley and Facebook still boosted the size of the IPO by 25 per cent in its final days. They also set the price at the top of an already increased range, at $38.
If the underlying business was looking weaker, why did they stretch for a high valuation – only to see the stock slump nearly 20 per cent by the end of Tuesday? And were only some investors privy to information about how the Wall Street professionals were turning more cautious, while others were left in the dark?
These are among the odd facets of a share sale that has turned from triumphant to disastrous in the space of three trading days. The recriminations will be swift in coming – as will the investigations, with the Securities and Exchange Commission and Massachusetts’ top corporate regulator already weighing in.
What makes this all the more extraordinary is that Facebook’s march to Wall Street had been running like clockwork. In the space of eight untidy days, things fell apart.
Nasdaq has been among the first to feel the heat. Whether the market’s authorities should have called off the opening of trading when their systems started to creak under the weight of orders – and how they responded once things got under way – are questions that will have a long-term impact on Nasdaq’s credibility. The blunders may not have been the root cause of the stock price slide, but they certainly didn’t do anything to underpin investor confidence at an important moment.
Lead underwriter Morgan Stanley is also under the spotlight. Did it do enough to ensure information about its client was properly communicated to investors, and how did it arrive at a $38 price for the stock that quickly proved unsupportable?
The Securities and Exchange Commission rules designed to limit the hyping of share sales certainly didn’t make the job any easier. Analysts working for underwriters aren’t allowed to publish their research, so the estimate revisions that came late in the sale process could only be communicated by word-of-mouth.
That is likely to mean that only big institutions which have personal contact with analysts would have picked up the message directly, leaving smaller investors in the dark about what the professionals close to the deal were thinking.
Whether Facebook itself will get caught up in the recriminations will depend on what the investigations uncover. It can hardly be faulted for setting a high price for the IPO: after all, it would have been criticised for erring in the other direction.
Whether it did enough to warn all investors of its more cautious business stance is a different matter. It all comes down to the adequacy of a single line in an official filing on May 9, in which the company warned that its “daily average users” had been growing faster than its advertising during the second quarter, largely because of a shift to mobile access.
It will now be up to the regulators to determine if the analysts were given extra informal guidance to shape their views. They must also judge whether Facebook should have said more in its official filing to help less sophisticated investors.
Viewed in terms of Facebook’s narrow self-interest, meanwhile, the fizzling share price is no bad thing. The lofty valuation set by the IPO was always destined to become an albatross around its neck, either now or later, making it harder to recruit new staff with attractive share options and setting it up for a bigger disappointment when the bubble was eventually pricked. This IPO will quickly be forgotten, just as Google’s disappointing Wall Street debut was before it, if Facebook grows strongly from here.
And let’s not forget the biggest winners. As the IPO was scaled up last week, it was three sophisticated financial firms that stepped forward to sell. Goldman Sachs, hedge fund Tiger Management and Russian investment firm DST more than doubled the number of Facebook shares they put up for sale, raising an extra $2bn between them.
At least someone was popping the champagne corks.
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