Facebook IPO: How can investors profit?

17th May 2012

As the clock ticks away to the eagerly awaited – or long dreaded – Facebook IPO on Friday, it looks as though the site could well top the $100bn market capitalisation target. 

And if the stories of massive over-subscription are true, then the shares could easily go to a 20 to 30% premium in early trading, based on first day deals in other social media IPOs. 

So how will this knock on to other technology stocks and to the US market in general?

Facebook's investment bankers have increased the price range from $28-$35 a share to $34-$38, potentially putting the firm's total value above $100bn. Reuters reports that demand for shares has been so high that the company would release up to 25% more shares, allowing it to raise about $16bn (instead of initial estimates of $10 to $11bn).

This would mean founder shareholders led by Mark Zuckerberg freeing up more of their shares but they would still end up controlling over 86% of the stock. 

Whether the eight-year-old social network has 900 million users worldwide holds early gains (like Google) or slips back (like Groupon) will depend on how investors see the prospects for monetisation of its huge user base. In any case, some institutional investors have refused to bid for IPO shares, waiting to see if the price settles into good value or overbought areas.

Silicon Valley vs Detroit

Facebook has to decide whether it needs to overcome the negative stance of car giant General Motors which has just  pledged to pull its advertising spend from Facebook as it does not reckon paid-for publicity on the site is sufficiently influential.

GM, the third biggest US advertiser, does not believe Facebook influences many people's choice of car. This may lead to others providing "big ticket" items to pull out although there is no sign of other motor manufacturers following the GM line.

The Detroit firm will, however, continue with non-paid for publicity on Facebook so users will be able to like or not like its latest models.

GM says: "In terms of Facebook specifically, while we currently do not plan to continue with advertising, we remain committed to an aggressive content strategy through all of our products and brands, as it continues to be a very effective tool for engaging with our customers,"

Facebook –  tonic or toxic for tech stocks?

But the big question is whether a successful Facebook will lead technology stocks and funds higher or a Facebook flop will be toxic for the entire sector.

IFA and Mindful Money blogger Darius McDermott at Chelsea Financial Services believes the present technology boom is different from the dotcom bubble in 2000.

He says: "I expect a big first day premium but the Facebook IPO is not the be-all and end-all. The sector has mature companies including Apple which appears to have more cash than Europe. Apple is moving to the ultimate steady-state by paying dividends, a real turn of the corner moment."

However he warns that much will depend on global and US market conditions and valuation levels. "Facebook is dependent on advertising so if that falls back, it will not do so well. But we are really looking at publicity strategies where the old metrics no longer hold. Coca-Cola, for instance, can refine its promotions if it knows who likes and who dislikes the product.

Online ads – 10 cents to the TV dollar

"And it could be that the potential for this form of advertising has barely started. On a effectiveness basis of who you reach and what they do, online is a tenth of the price of television. There has to be room to arbitrage this – a 50% online price rise would still be one-sixth the cost of TV," McDermott adds.

Technology stocks and funds have been out of favour for more than a decade. So is it different this time or should investors fear another bubble?

On the plus side, there are now real businesses – in 1998-2000 companies were so blue sky that even promoters were unsure what they wanted to do. Firms raced each other to raise and then burn cash. No one paid dividends – now Microsoft does and Apple will. And high speed broadband which has revolutionised the online experience was still experimental back then.

Tech investors should not forget hardware where the replacement cycle is just a few years. While the power of processors is said to double for the same cost every 18 months or so, purchasers never downsize so profits and margins are not eroded.

Known and unknown unknowns

The negatives start with the known unknowns and continue to the unknown unknowns. The former start with choice of gadget; Phones are taking over from the PC in the consumer market. Will they be supplanted by tablets or whatever else comes along? Will Facebook be able to replicate itself on a pocket-sized screen? Will people tire of social media or of Facebook? Jibes that Facebook friends are not real friends do not help.

McDermott's advice?  Technology funds can be concentrated and are generally volatile. He adds: "The MSCI IT (technology) index looks only at developed markets at the moment and with the US still the location of choice (as far as intellectual property rights go) for many technology companies, it makes up a huge 84% of the index (Japan is 9%, Europe 6% and UK 1%). So anyone wanting a more diversified play could think about a a more general US equity fund instead."


More on Mindful Money:

Facebook: The
IP arms race

Facebook is the new Greece

The rise of ‘fashion’ stocks – but are they built to burn?

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