Facebook IPO, In or Out?

You’ve seen all the news this week. Mr. Mark Zuckerberg is expected to finally bring his Facebook public. The company has been preparing to file for an IPO — initial public offering — through which “the public” will be able to buy shares of the social networking company.

Many of us are aware that Apple’s market capitalization is fast approaching half a trillion dollars, making it either the largest or second-largest company in the world behind Exxon Mobil – depending on the week. So when we hear that Facebook is preparing for an IPO that will likely dwarf Google’s entrance to the public markets in 2004, particularly considering that the company doesn’t sell tangible goods or services in the traditional sense, we can’t help but wonder what this will mean for the future of Facebook, its users, its competitors, and the greater economy.

 

FB Home page

This new form of media — social networking — will not only redefine the Internet, change human relationships, and create a new marketing landscape, but “some say” it will now rescue and alter the economy itself. Like virtual kudzu, it will infiltrate the financial markets, creating new sorts of opportunities for this peer-to-peer “social” economy to take root. I don’t think we are witnessing Facebook’s victory over the financial markets as much as its acquiescence to them. Yes, Apple challenged Microsoft for software dominance, just as Facebook now challenges Google for Internet supremacy. But there’s another operating system churning away beneath all this high tech activity, and it’s called corporate capitalism. If a company is big enough — and that means simply holding enough money — then sooner or later that money influences the rest of the company’s activities.

 

In Facebook’s case, it meant approaching the legal limit of 500 investors, which triggers a requirement to open the books to regulatory scrutiny. It also meant dealing with a few thousand coveted employees who took jobs at Facebook instead of Google or Apple or anywhere else because they were hoping to get in on a big thing. The promise of cashing in a few million dollars’ worth of stock options helps many a programmer make it through a late night of coding.

The same goes for those who invested in Zuckerberg five or more years ago and want to cash in before the “social web” bubble pops, if it’s going to. Facebook was taking so long to get to market that many people had begun selling their shares privately on what are known as secondary markets, putting Facebook’s valuation even further out of the company’s own hands.

 

Simply becoming a multi-billion-dollar company changes the essence of its goals, activities, and purpose. It becomes filled with cash, and that cash has its own agenda. Just like print, TV, or the Internet, money is a medium. It has biases, or tendencies, programmed right into it. The kind of money we happen to use  is biased toward lending. That’s why we call our system “capitalism.” It’s about the capital: Our money is designed to favor those who lend it to others who actually use it to build companies or create value. The more money a company takes in, the more obligated it becomes to function in accordance with the properties and rules of money.

 

By all accounts, Mr. Zuckerberg was trying to delay this IPO as long as possible. He knows that becoming the CEO of a public company will not be nearly as much fun, or as free, as running an Internet startup. No matter if we may not like his vision for our future, his primary purpose was to change the world. He wanted to create the operating system on which human social activity took place, and he succeeded. Or at least the engine he built took on such momentum that it created it’s own track.

 

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As Facebook steals market share and makes gains on its rivals, it was said in a recent article on CNBC that Facebook delivered 28 percent of display ads in the US last year—a whopping 1.3 TRILLION display ads — up from 21 percent in 2010. The number two player has just 11 percent share. Since most companies inflate their numbers because they can, I’m not sure I believe it. Additionally it seems odd based on the metrics from IAB. Search continues to lead, followed by Display/Banners and Classifieds — Search revenue accounted for 49% of year-to-date revenues, up from the 47% reported in the first half of 2010. Display advertising showed solid growth, accounting for 37% of year-to-date revenue, up from 36% in 2010.

Is Facebook winning?

Yes, there’s the ability to target ads very narrowly using personal information from user profiles and information about how people spend their time on the service. ( you know they monitor your every move right? ) There’s also the fact that Facebook offers a rare opportunity to connect with self-professed fans, who are far more open to marketing messages than a run-of-the mill web-surfers. At least this is how the ad metrics work. I suspect that eventually this form of advertising will run its course and people will get tired of being bombarded.

So what does this mean for Wall Street? MONEY OF COURSE!

The fees on Facebook’s initial public offering are not really as low as the stories all over the mainstream media about the deal setting a “new record low”. In the first place, as an absolute number, a brokerage getting paid 1 percent of a $10 billion offering means they get $100 million. That gets split up between the various investment banks that will participate in the deal, with the largest piece going to the lead underwriters. This means that Morgan Stanley, if it does wind up in the lead position, is likely to take between $20 million to $25 million in fees. Apparently Morgan Stanley did 127 U.S. equity deals last year, with an average size of around $133 million and average fees of around $5 million. So getting paid $25 million for a single offering is a very big deal. LET’S NOT FORGET ABOUT ALL THE HYPE HERE AND ALL THE BROKERAGES THAT PARTICIPATE WILL BE TRYING TO GET PEOPLE TO OPEN ACCOUNTS TO GET IN ON THE BUYING OF FB SHARES  WHICH ALSO PUTS MONEY IN THEIR POCKET!

Analysts say that the costs of underwriting IPOs do not rise symmetrically with the size of the IPO. Small deals can involve a lot of due diligence and can be harder to sell to investors. Larger deals — such as a Facebook IPO — can be easier because everyone already understands Facebook’s business model. Similarly a little IPO requires a team of bankers to learn about a little company, Do lots of due diligence on it to avoid selling snake oil or whatever, and then convince investors to learn about and buy it. Nobody needs to learn about Facebook.

It shouldn’t really be surprising that there are economies of scale in the IPO world. The fees at Wall Street firms actually bear this out. Smaller deals command fees as high as 7 percent, medium size deals typically come in a 6 to 5 percent, while deals of more than a billion dollars land in the 4 to 2 percent deals. The $15 billion General Motors IPO had fees set at less than one percent.

Let’s break down the fees of Morgan Stanley. Imagine it takes around 90 days from the time Morgan Stanley lands the lead role until the IPO. Working 15 hours a day every day — including weekends — Morgan Stanley would be charging a rate of more than $18,500 per hour. Let’s say that there are 30 people staffed to the deal — probably too high, but there are likely to be lots of lawyers in that number. That’s an hourly charge of $617 for each person. Ridiculous!

In other words, a lot of the talk about the banks doing the deal for the sake of “prestige” is propaganda, meant to disguise the fact that the banks are making a ton of money off the deal and their all involved! As I’ve been saying since 2005, banks don’t do anything unless it benefits them!

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