Facebook’s fizzle was no surprise

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May 25, 2012

Facebook’s fizzle was no surprise

Daily Star The Daily Star Fri May 25, 2012, 11:23 AM EDT

Facebook’s IPO last week was supposed to be a moment of triumph for the social network, but the event quickly devolved into an ugly tale of duplicity, hubris and greed, as the stock lost 18 percent of its value in the first two days of trading.

The mess started when a Nasdaq technical glitch delayed orders for nearly two hours. Nasdaq has faced withering criticism for the glitch, especially after reports surfaced that the exchange knew its systems weren’t working properly but went ahead with the deal, anyway.

But there’s plenty of evidence to suggest Facebook’s stock would have tumbled even if Nasdaq executed its orders properly, as Facebook’s own internal data raised more questions than answers about the company’s business model.

Doubts about Facebook’s viability arose before the May 18 IPO. On May 9, Facebook submitted an amended SEC filing that said the company doesn’t “generate any meaningful revenue from the use of Facebook mobile products, and our ability to do so successfully is unproven.”

But a more-curious omen came just days before the IPO, and was never disclosed to the public. According to a Reuters report, the banks underwriting Facebook cut their internal forecasts for the company’s growth prospects immediately before the IPO — without telling the public. Such selective disclosure of material information is illegal, and the underwriters were quickly sued, along with Facebook itself.

Although Facebook officially went public last week, shares of the stock were being traded privately for years on sites, such as SecondMarket and SharesPost. These services, which require massive minimum investments often exceeding $100,000, allowed Facebook to inflate the value of its stock before the IPO while skirting the public disclosure rules public companies are required to follow. And just before it went public, Facebook watered down the stock by increasing the number of shares offered by 25 percent. As soon as the stock went public, many insiders cashed out in a classic case of “pump-and-dump” chicanery.

That said, many smart investors saw through the Facebook hype. The company’s struggle to turn its massive audience into a reliable revenue stream wasn’t helped when General Motors pulled its ads from Facebook, saying they simply weren’t influencing consumers. And at $38 per share, Facebook’s opening day stock price was 100 times the company’s per-share earnings. By comparison, more-established companies Apple and Google have price-to-earnings ratios of 13.6 times and 18.2 times, respectively.

While Facebook may have a broader reach than Apple or Google, that reach is in many ways shallow and superficial. It still relies on advertising, a notoriously unreliable source of income, for 85 percent of its revenue. Time will tell how the company performs, but for now, investors are correctly assuming that Facebook isn’t as innovative or useful as has been suggested.