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Spare a thought for the Wall Street analysts who turned cautious in the run-up to Facebook’s IPO last week.
More than a decade ago, analysts were roundly criticised for overhyping worthless dotcoms that their employers then foisted on an unsuspecting investing public. So wasn’t it a good thing that the number-crunchers at Morgan Stanley and other banks responsible for leading the biggest-ever tech IPO had the guts to cut their forecasts at such a crucial moment?
That’s not the way angry investors see it. Despite this highly unusual change in sentiment so late in the sale, Morgan Stanley and Facebook still boosted the size of the IPO by 25 per cent in its final days. They also set the price at the top of an already increased range, at $38.
If the underlying business was looking weaker, why did they stretch for a high valuation – only to see the stock slump nearly 20 per cent by the end of Tuesday? And were only some investors privy to information about how the Wall Street professionals were turning more cautious, while others were left in the dark?
These are among the odd facets of a share sale that has turned from triumphant to disastrous in the space of three trading days. The recriminations will be swift in coming – as will the investigations, with the Securities and Exchange Commission and Massachusetts’ top corporate regulator already weighing in.
What makes this all the more extraordinary is that Facebook’s march to Wall Street had been running like clockwork. In the space of eight untidy days, things fell apart.
Nasdaq has been among the first to feel the heat. Whether the market’s authorities should have called off the opening of trading when their systems started to creak under the weight of orders – and how they responded once things got under way – are questions that will have a long-term impact on Nasdaq’s credibility. The blunders may not have been the root cause of the stock price slide, but they certainly didn’t do anything to underpin investor confidence at an important moment.
Lead underwriter Morgan Stanley is also under the spotlight. Did it do enough to ensure information about its client was properly communicated to investors, and how did it arrive at a $38 price for the stock that quickly proved unsupportable?
The Securities and Exchange Commission rules designed to limit the hyping of share sales certainly didn’t make the job any easier. Analysts working for underwriters aren’t allowed to publish their research, so the estimate revisions that came late in the sale process could only be communicated by word-of-mouth.
That is likely to mean that only big institutions which have personal contact with analysts would have picked up the message directly, leaving smaller investors in the dark about what the professionals close to the deal were thinking.
Whether Facebook itself will get caught up in the recriminations will depend on what the investigations uncover. It can hardly be faulted for setting a high price for the IPO: after all, it would have been criticised for erring in the other direction.
Whether it did enough to warn all investors of its more cautious business stance is a different matter. It all comes down to the adequacy of a single line in an official filing on May 9, in which the company warned that its “daily average users” had been growing faster than its advertising during the second quarter, largely because of a shift to mobile access.
It will now be up to the regulators to determine if the analysts were given extra informal guidance to shape their views. They must also judge whether Facebook should have said more in its official filing to help less sophisticated investors.
Viewed in terms of Facebook’s narrow self-interest, meanwhile, the fizzling share price is no bad thing. The lofty valuation set by the IPO was always destined to become an albatross around its neck, either now or later, making it harder to recruit new staff with attractive share options and setting it up for a bigger disappointment when the bubble was eventually pricked. This IPO will quickly be forgotten, just as Google’s disappointing Wall Street debut was before it, if Facebook grows strongly from here.
And let’s not forget the biggest winners. As the IPO was scaled up last week, it was three sophisticated financial firms that stepped forward to sell. Goldman Sachs, hedge fund Tiger Management and Russian investment firm DST more than doubled the number of Facebook shares they put up for sale, raising an extra $2bn between them.
At least someone was popping the champagne corks.
Richard Waters is the FT’s west coast editor