5 Reasons NOT to Invest in Facebook’s IPO

The Facebook IPO has been covered ad nauseum in the financial media since the beginning of the year, with overall glowing reviews of the relatively new Internet social media giant. While Facebook's upcoming IPO has many people hoping to get in on owning a piece of the company, a number of reasons exist to be wary of buying the company's stock.

One reason for exercising caution when buying the stock which immediately comes to mind is the incredible amount of hype the IPO has generated. Furthermore, even though its S1 filing information painted an extremely positive picture for the company, some details that were disclosed make it hard to justify the $100 billion valuation the company may receive when the IPO is priced.

Five Reasons NOT to Invest in Facebook's IPO

Valuation

At $100 billion, the projected valuation for Facebook appears to be on the high side.
The company would be just below McDonald's with a $101 billion valuation. It took MacDonald's a long time for its stock to reach the level where its valuation went over $100 billion. Facebook has been in business since 2004. According to Facebook's S1 SEC filing, its 2.9 billion shares of Class B common stock was valued at $29.73 on December 31st, just below appraisals made in June and September valuing the stock at $30.07 per share. At $29.73 per share, the company is already worth around $86 billion. A recent auction of an 80,000 share block was oversubscribed at $33 per share, making it likely the IPO price will be between $35 and $40 per share. A $100 billion valuation for the company will be hard to both justify and maintain.

Revenue

Facebook's revenue, according to the S1 filing, was $4.39 per user, which is a low number considering the per user revenue generated by other competing firms. Google's revenue, for example came to about $38 billion last year, which works out to more than $30 per user, while Yahoo gets $7 to $10 per user. To make things clear, let's use the above example; last year MacDonald's generated more than $27 billion in sales and had income of $5.5 billion. Facebook, generated $3.7 billion, leaving the company with a profit of $1 billion. That works out to revenue seven times higher for MacDonald's returning a profit that was five and a half times larger than Facebook.

Availability of Stock at the IPO Price

Unless you already have an account at an investment bank with a large balance and have been doing business with your broker for some time, your chances of getting the stock at the IPO price are slim to none. Most individual and smaller investors will have to wait for the stock to open on the stock exchange before getting a chance to buy it. This means that a lot of people will be buying the stock at higher levels, putting delayed downward pressure on the stock. Once the buying has subsided, many people who bought the IPO shares at the IPO price may begin taking profits to realize their gains.

No Incentive for Corporate Capital Spending

Facebook's platform does not support corporate capital spending; being already self-contained, the platform does not offer room for developers to make new third party products. This contrasts with other Internet companies that have gone public such as Netscape, for example. Because the web browser made surfing the internet easier, it stimulated a host of corporate capital spending for development of everything from websites to web infrastructure.

You May be Able to Buy Facebook Stock at Lower Levels

Because of the hype and the media frenzy surrounding the IPO, a good chance exists that the stock will have a huge run up right after the IPO, and subsequently sell off sharply after the initial euphoria wears off. Most tech IPOs in 2011 traded below their IPO price after their initial offerings, before heading higher. If you absolutely have to buy the stock, you might be better off waiting until things subside to get a better price.
Published on Mar 19, 2012
By Jay Hawk
Jay Hawk
Jay Hawk enjoyed a 12-year professional financial markets career incorporating extensive first hand futures and options experience obtained by trading in the stock, commodity and forex markets on U.S. exchanges. Since retiring as a full-time financial market professional, he has been actively trading stock, commodities, forex and options for his own account and managing funds for others, as well as writing financial market commentary and educational articles.

Copyrighted 2016. Content published with author's permission.

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