For the past week, people have been asking me how to buy FaceBook shares. This post was originally published several months ago to answer that question. But I decided to republish this post today. FaceBook is going public in a few hours and while the price may skyrocket out of the gate, I still think it’s a speculative investment. Of course, I could be wrong – I’ve been wrong before. Time will tell Anyway, here’s how to buy shares even if you don’t get them on the IPO (which you won’t) and why I think you should be careful about buying shares anyway.
You probably already know, you’ll be able to buy shares of Facebook very soon. (A far more important question is – do you really want to? We’ll get to that shortly.)
“FB” shares will be brought to market in an IPO sometime over the next several months. That means you’ll be able to acquire them either through the Initial Public Offer (IPO) or on the secondary market. While there is a ton of interest in snagging those shares on the IPO, there are plenty of reasons why you might want to stay clear. Before we get into that, let’s talk about how you would buy those shares if you insisted on doing so.
Neal’s note – If you put in a request to buy shares in FaceBook on the IPO you probably didn’t get them. Read on to find out why.
How To Buy Facebook Shares On The IPO
An IPO is an Initial Public Offer as I mentioned. This is a mechanism by which a company sells a portion of itself directly to the public by offering shares. There is a group of brokerage firms who “underwrite” the offering and these people are key players. Underwriters do the legal work and due diligence – or are supposed to. They basically prepare the paperwork in order for the stock exchange to put buyers and sellers together who are interested in the shares.
The underwriters are given the responsibility to get the shares sold. With a hot offering like Facebook, that won’t be a problem. There will be a great deal more demand than there will be shares available. The reason the underwriters sell the shares is for the markup or commission.
What happens is that the company and the underwriters determine a value for the shares – that’s the price they think the public will pay for each share. And for every share the underwriters sell, they receive a nice fat commission. You can see that this creates a huge conflict of interest between the brokers who are part of the underwriting group and the brokers’ clients who rely on them to look out for their own interests. This isn’t talked about much now but it was a big issue in the early 2000’s. Back then the SEC levied huge fines against the largest brokerage firms for touting IPOs to the investing public that were total “schlock”.
What has this got to do with Facebook?
The company and its underwriters are going to sell a portion of the shares and they hope that will value the company at $100 billion. There is a great deal more demand for those shares than there will be supply as I said. The underwriting brokers are going to “award” those shares unfairly. They are going to let their very largest customers, hedge funds and institutional clients buy shares and they are going to award shares to brokers who have done other “favors” for the brokerage firm like getting investors to buy shares in other IPOs that weren’t as hot as Facebook.
Bottom line is, there is going to be a great deal of demand for Facebook shares and if you aren’t a fat cat or very good friends with one, you probably aren’t going to be able to buy shares during the IPO.
If you don’t get shares on the IPO what are the options?
If you have an investment strategy that has an asset allocation for individual stocks, you can always buy shares on the open market after the initial public offering is allocated. After that, the people who did get the shares will be only too happy to sell them – at much higher prices than they paid for them of course. That’s the big pop everyone wants. Chances are good they won’t have any problem dumping those shares on people willing to pay sky-high prices.
That’s because once those shares get divvied up among the fat cats, all the people who didn’t get shares on the IPO are going to fight each other to buy shares on the secondary market. That’s going to drive the price up – at least temporarily.
Aren’t all IPOs sure things?
Nope. Not by a long shot. Sure there are success stories – but there are more tales of woe. Netscape communications came public in 1995 and ignited the tech boom. Now, nobody knows where they are. And that’s not the only example. More recently in 2011, there was $38.7 billion worth of IPOs that came to market. More than half those companies lost share value that year. (This is why I don’t buy IPOs myself and it’s why I almost never buy individual stocks.)
The FTSE Renaissance IPO index tracks all IPOs worth over $100 million. It lost 21% last year compared to the S&P which was basically flat according to Investment News Magazine.
I mentioned above that the underwriters value Facebook at $100 billion and they are going to price the shares accordingly. But at that price, the shares will be trading at 27 times its revenue. That’s not 27 times earnings – it’s 27 times revenue. That is ridiculously high – even for Facebook. And it’s 5 times the multiple that Google has.
My bottom line feeling is that Facebook may not be a great long-term investment. What do you think about FaceBook as an investment?
Of course I could be wrong. Facebook could become another Google or Apple. How do you feel about the Facebook thing? Are you a buyer or a seller? Why?