comparing IPOs: Facebook (FB) and Alibaba (BABA)

J\Last Friday, just over two years after the IPO of Facebook (FB) in mid-2012, another major tech company, the Chinese internet conglomerate Alibaba (BABA), made its debut on Wall Street.  BABA received a warm reception.  This is in sharp contrast to the FB experience, which will certainly go down as one of the bigger stock market disasters of the decade (the century?).

The differences, as I see them:

the FB fiasco

1.  FB depended on a single lead underwriter, Morgan Stanley (MS).

2.  Morgan Stanley was unusual in that it had made a big effort to remain in touch with Silicon Valley after the collapse of the internet bubble in 2001.  It seems to me to have believed FB was its last best chance to cash in on more than a decade of visits and phone calls.  It also thought there was no follow-on business to be had.  Therefore, its tech investment bankers appear to me to have been more concerned about maximizing their fee income on FB than on ensuring that the buyers had even a mildly profitable experience.

3. Subsequent media reports, presumably based in considerable part on information provided by the underwriters, make it clear that the management of FB was obsessed with the idea of not “leaving any money on the table.”  The CFO, David Ebersman, seems to have badly misunderstood how the process of going public works–in particular, the negative effect on company morale of a failed IPO.  This is very odd, since most often a CFO is brought in precisely because he/she knows how going public works.

4.  Shortly before the IPO date,  the IPO price was boosted by about 12% and the number of shares on offer was raised by 25%.  In other words, at the last-minute the issue size was upped by MS and Ebersman by almost 50%–soaking up a ton of money that would otherwise have been available for buying in the aftermarket.  Virtually none of this went to FB; is all went to early investors, and some employees, cashing out.

5.  The FB offering was unusually highly reliant on (inexperienced) retail investors.  It appears many tried to “game” the IPO by asking for, say, 5x what they wanted to end up with (see my original post on the FB IPO).  Imagine their shock when instead of the $50,000 worth of FB they expected, $250,000 worth of stock–and the accompanying bill–plopped into their accounts.

6.  Then, of course, the NASDAQ trading computers broke down.  This made it impossible to trade, or even to get an accurate quote.  In fact, for at least several days, retail sellers didn’t know how many shares they may have bought or sold on the morning of the IPO, or at what price.

BABA is much better, so far

BABA used six lead underwriters, not one–although MS was included among them.

Retail exposure was minimal.

BABA listed on the New York Stock Exchange, avoiding NASDAQ.

BABA did price at about 5% above the high end of the announced range (apparently indications of interest were huge).  But the size of the offering wasn’t boosted, meaning plenty of buying power was still left for the aftermarket.  BABA was also arguably priced at a discount to comparable Chinese internet firms, while FB was priced at a premium–just as its business was beginning to slow.


better days ahead for Facebook(FB)?


I think so.  Insiders appear to be unwilling to sell at the current market price and Wall Street seems to have forgiven FB for what I regard as the less than ethical behavior of the company’s main underwriter during the IPO.

recent trading

Yesterday marked the end of the third–and final–period over which FB employees and early investors had agreed not to sell shares.  Just north or three-quarters of a billion shares were thereby released from lockup.  Wall Street was bracing for the worst.

But only about 50 million shares appeared for sale at 9:30.  Total volume for the full day yesterday was just under 230 million shares, or about 5x normal.  More important, the stock went up 12.6% in a flat market.

As I’m writing this just after midday Friday, FB is up about 6while the S&P 500 is flattish.  Volume is high again, but I read this as professional investors reacting positively to the small percentage of insider shares that were put out for sale and to the strong price action that soon developed.

the IPO, in hindsight

Not Morgan Stanley’s finest hour.

The main underwriter threw gasoline on speculative flames instead of tamping them down.  And NASDAQ’s computers broke down just as it was dawning on individuals dreaming of instant riches that they’d been had.

That was bad enough.  But the really damaging part of the IPO, to my mind, was the way I think the underwriters “spun” the mandated company disclosure in a way that made FB look better than it is.

Any professional investor would take it for granted that Morgan Stanley knew exactly what it was doing.  The real question is whether company management was complicit in this shady process–in which case they couldn’t be trusted and buying the stock could be hazardous to your career.  On the other hand, maybe FB executives were just too inexperienced or naive to understand what was going on.

The price action of the past two days seems to me to be saying portfolio managers and buy-side analysts have decided the latter is the case.

So, two plusses for FB.

Greater Fool Theory (II): Zynga (ZNGA)


Zynga (ZNGA) is a maker of casual social games played principally on Facebook.  The most famous of them is FarmVille.

The company follows in the footsteps of the Korean smash hit Kart Rider, which showed how immensely profitable “free” casual online games can be if they charge money for items players need to succeed (microtransactions).

going public

ZNGA went public in mid-December 2011–before GRPN shares began to give up the ghost–at $10 a share.

Shareholders weren’t as lucky on day one as GRPN IPO participants, however.  The stock opened at $11 and rose to $11.50.  It then faded back to $9, before closing the day at $9.50–below the IPO price, despite presumably the best efforts of the underwriters to “stabilize” the price at $10.

The stock did have a brief renaissance in February, when it reached almost $16 a share, before beginning its downward journey to the current $2.78.

 ZNGA as a “greater fool” stock

two investment variables

To my mind, the most important investment issues surrounding ZNGA were/are:

–whether it could follow the success of Farmville with other, hopefully bigger, games, and

–its relationship with Facebook.

on the first count,

It’s pretty easy conceptually to figure how much a given game is worth.  Games have a lifecycle that’s a function of:

–how many users it has

–how often, and for how long in each session, they play

–how long the game remains at/near peak popularity before players become interested in something else and fade away.

The detailed data may be difficult to come, but this is a straightforward discounted cash flow problem.  Figure out the value of a game–let’s say $3 a share–and that tells you how many successful games are already being presupposed in a given stock price.

Long before the IPO, industry sources were indicating that ZNGA was having trouble finding a follow-up success to Farmville.  Its subsequent games were attracting fewer players–who were playing them less intensely than Farmville, and losing interest more quickly.  Therefore, on all DCF counts, they were (much) less profitable.

To my eyes, ZNGA had all the earmarks of a one-trick pony.  Yet, to me the $10 IPO price presumed a parade of new hits.

on the second point,

experience, common sense and basic microeconomics all suggest that symbiosis can be a fragile thing in the business world.

From FB’s perspective, the fact the ZNGA games were a significant source of its revenue had to start it looking for other game makers to feature.  That would hedge against the possibility that ZNGA was a flash in the pan.  And it would diminish the leverage ZNGA would otherwise be gaining over FB if the hits kept on coming.

From ZNGA’s perspective, the fastest way for it to grow would be to tap non-FB gamers by establishing a platform separate from FB.  That, of course, would be potentially bad for FB.

The issue has two facets:

1.  Was ZNGA successful because FB steered traffic to it?; or was FB successful, at least in part, because it had preferred access to ZNGA games?  The more important partner should get the lion’s share of any profits from the partnership.

2.  The FB/ZNGA relationship had become profitable enough that the question of the respective profit shares came up.

Here again, the issue was settled pretty decisively over a year before the IPO.  ZNGA is successful because of  FB, not the other way around.

why subscribe to this IPO?

What must the subscribers to the IPO have been thinking?    …all I can see is the thought that “greater fool” had worked once with GRPN, so it would likely work again.

And, if you flipped the stock into the early strength on the first trading day, it did.

Tomorrow:  what were the underwriters thinking?

has Facebook (FB) bottomed?

I think it has–at least in relative performance terms.  But I also think that FB’s conduct during its IPO has created an enduring credibility problem for it.


The biggest factor depressing FB stock during its debut, in my view, was the joint, last minute, decision by the FB chief financial officer and the lead underwriter to expand the dollar amount of an already large offering by 40%.  That left no buying demand for the aftermarket.  If you think the underwriters didn’t know precisely what they were doing, there’s a bridge connecting Manhattan and Brooklyn you might be interested in buying.

However, it has only recently come out that the NASDAQ trading problems on the first day were much larger than I had originally appreciated.  CNBC has reported that investment bank UBS alone may have racked up FB-related losses of $350 million.  How so?

If you remember, NASDAQ’s computer systems weren’t able to handle FB orders at all for the first several hours of trading.  Some retail investors didn’t know for the better part of a week how much FB stock they had bought or sold.  It turns out, though, that institutional problems were a lot bigger.

CNBC says an unnamed UBS trader entered a buy order for 1,000,000 shares of FB.  He didn’t get a confirmation from NASDAQ.  So he entered the order again   …and again   …and again   …and again.  Then, apparently, confirmations for all the orders came at once.  It’s unclear whether the confirms came on Friday, or during the following week.

CNBC also says UBS only liquidated some of the stock at below $30 a share.  Do the math.  If we say the UBS trader bought the stock at an average of $40 and sold at $30, that’s a $10 loss on each share.  If so, he pressed the “buy” button 35x!!!, without thinking about the possible consequences  (Welcome to the world of trading.).  

Presumably the UBS trader wasn’t the only one doing this.

Notice, too, that the FB price didn’t dip below $30 a share until almost two weeks after the IPO.  So it took UBS at least that long to trade out of its unwanted position.  Throughout all that time, FB was under unnatural selling pressure.

I think that’s over.

prospectus disclosure

The IPO materials suggest that FB wants to portray itself as carrying out an ethically good social mission.  Mark Zuckerberg says as much when he leads off the IPO video.  Thereby, I presume, it hopes to gain investor trust and support–and a higher PE.

FB has just released correspondence between it and the SEC about the prospectus.  Media analysis of the documents indicates that FB withheld from the first version of the prospectus two items of information that I regard as the two most important facts about company operations.  They are:

–the regional breakout of subscriber growth and profitability, and

–the effect on profits of the switch to mobile use of FB.

(Note:  I haven’t looked at the correspondence, which is contained in SEC filings by FB.  But every major news source I read has reported the same story.)

You might say that in the rough and tumble of economic life, the most prudent course for a company is to disclose as little as possible to potential competitors.  You might also say that the initial draft of the prospectus is intended solely to stake out a negotiating position with the SEC.  In one sense, that’s right.  But if you do this, I don’t think you can pitch yourself as being socially responsible or try to cultivate potential investors as partners in the noble cause you’ve embarked on.

Think of it this way:

A married couple.  One partner likes to gamble but always loses.  One day, that partner comes home late from work, after losing $500 playing poker.  The other partner says, “I see that look on your face.  You’ve been gambling again.  How much did you lose this time.”  The reply:  “$5.”

Is this last statement true?  I don’t think so.

Yes, it is factually correct.

But it’s also incomplete.

If the two people were commercial adversaries, maybe the statement would be okay.  But in a relationship where the partners have assumed an obligation to be fully and completely truthful with the other, the reply is a lie.

No, the prospectus isn’t a marriage proposal.  On the other hand, I don’t think that FB can invite us to become partners on a socially uplifting journey while stamping caveat emptor on all its disclosure to us.  We can’t be both trusted allies and sheep ready to be fleeced.

The “like me, trust me” route does generate a higher PE multiple, in my experience.  But to the degree that investors perceive a double standard, I think the stock’s PE multiple will be lower than if it clearly chose one approach or the other.

the strangest stuff about the Facebook IPO

Looking back on the FB IPO, I find several aspects of it strange. I don’t just mean that it was horribly bungled by the underwriters–and to an extent that almost defies comprehension. There’s more:

the last-minute prospectus additions

They concern the effect of increased mobile usage on FB results in the US. This trend appears to have been evident for a long time. It’s certainly material. At All Things D, Mary Meeker (more on her presentation in another post), the former Morgan Stanley internet analyst–she and Henry Blodget were the uncrowned Wall Street royalty of the late Nineties internet mania, said about half of US FB users do so via the less-lucrative mobile route. If so, why the only passing mention in the original prospectus?

subsequent rumor mill fodder

Over the past couple of weeks, stories have emerged that FB is going to:
–create its own branded cellphone
–acquire the Scandinavian browser company, Opera, and
–buy Research in Motion.
Who knows whether any of this is true. But if FB has plans on any of these fronts that are any more than idle musings, there should have been some mention in the prospectus.

no demographic information

Clearly, FB has transcended its original purpose of allowing college classmates to learn about each other more quickly. I’d be interested in knowing, for example, if the heaviest users are high school and college students–and if usage falls off sharply as they leave school and begin working. FB must know stuff like this. But, again, nothing in the prospectus.

the attitude of Morgan Stanley

The CEO is reported to have said in a cable TV interview that retail investors were “naive” and had participated in the IPO “under false pretenses,” if they expected FB shares to go up after the IPO. FB shares have set a world record for loss of market value by an IPO after its debut. That’s not normal. Arguing that investors should recognize that they are sheep to be fleeced whenever wool is needed–even if that’s what he really thinks–isn’t a great way to get new customers, or to keep current ones. He might have said he didn’t mean for this to happen and he was sorry.