After days of stock-market failure, we find out the real deal behind Facebook's IPO preparations, which show a disconnect between institutional investors on the inside and the rest of the world on the outside. It's a disconnect we should have noticed during the media's constant roadshow coverage.
Per Business Insider's Henry Blodget and a thorough article by The Wall Street Journal's Shayndi Raice, Anupreeta Das and Gina Chon we learn that Facebook and its underwriters tipped off some inside "institutional" investors that the company's stock would not perform as well as anticipated, due to weaker ad-revenue forecasts. Regular people, however, did not get this information. In short, from Blodget: "In one of the biggest IPOs in history, in which a huge amount of stock was sold to small investors, privileged Wall Street insiders once again got top-notch information... and individuals got the shaft," he writes. That sure sounds like the selfish social media company we've come to know.
In short, here's what happened. After days (months? years?) of hype, Facebook filed amended IPO documents with reduced revenue forecasts buried down on page 57. The three banks underwriting the social network cut their forecasts for Facebook, without making it too public. Reuters' Poornima Gupta and Alexei Oreskovic have a rundown of those numbers, giving an idea of how much the outlook changed. Blodget says: "These estimate cuts were conveyed verbally to sophisticated institutional investors." This may have given these investors an "unfair advantage," in the words of Raice, Das and Chon. Blodget also says during the roadshow Facebook tipped off in a wink-wink nudge-nudge kind of way that Facebook wouldn't perform as well as expected. "Meanwhile, out in the real world, demand for Facebook stock was hitting a fever pitch," writes Blodget. "One senior stockbroker at a major brokerage firm reported that he 'had never seen such demand' for an IPO." These people didn't know about the downgrades. And that's how the price got set too high. People on the outside wanted it at $42, people in the know wanted it at $32. So we got a compromised $38.
While this all comes as shocking and scandalous (and possibly illegal), it shouldn't come as a surprise. The weeks leading up to Facebook's roadshow we saw this disconnect. On the very same day, Reuters had sources saying the IPO was oversubscribed, while Bloomberg had a seemingly opposing headline: "Facebook IPO Said to Get Weaker-Than-Forecast Demand." Turns out these two articles were not at all in conflict. "Facebook Inc. (FB)’s initial public offering has so far generated lower-than-expected demand from institutional investors who are concerned about the company’s growth prospects, people with knowledge of the matter said," wrote Bloomberg's Serena Saitto, Jeffrey McCracken, and Zijing Wu. While Reuters said others were dying to get their hands on the stock. This aligns with what Blodget and WSJ are reporting post-facto. At the time, we attributed these headlines to IPO overhype. But it was overhype of a different sort.
Even without anonymous sources, however, these shady dealings reflect the selfish company we've seen Facebook turn into. As we've noted before, this IPO only serves Facebook. This whole shady deal just proves that. The insiders had all the right information. Regular people did not. Before the deal went public, by the way, major investors, who got out while they could, made a ton of money trading on the secondary markets, explains John Cassidy in The New Yorker. "Ordinary investors were largely cut out of the wealth-creation process, and well-connected investment firms took their place," he writes. "It all sounds suspiciously like an inside job, in which the last ones in, the ordinary investors, are the saps," he continues -- he penned this on Monday, before we knew the full story, by the way. And those still in the game, as Reuters' Felix Salmon notes, can short sell millions of shares under what is called the "greenshoe option."
Facebook's getting a comeuppance of a sort now, we suppose. It's gotten a ton of bad press. Its stock now sits at 31.97 -- well below that $38 price. And, Morgan Stanley's being investigated for SCC violations. Though, Zuckerberg and others are still super-duper rich, and probably laughing all the way to their online bank accounts. They say Karma's a bitch, but she seems a little tame right now.