Groupon And Zynga Could Fall 50% As Lockup Looms

 |  Includes: GRPN, LNKD, P, ZNGA
by: Kraken

Groupon (NASDAQ:GRPN) and Zynga (NASDAQ:ZNGA) IPO'ed last year amidst a social internet boom. Both companies released only a small portion of its total float in the offerings. Why do this?

This is so company's management knew that investors would heavily purchase their shares, which would prop up the stocks valuation. Management of these companies might want to do this for various reasons. One of them of course is that once they sell their stock options they would be able collect a higher amount of money once they sell.

Currently, both companies command high valuations mainly due to speculation of their future growth potential. However, one major item that worries me is the potential lockup situation that is about to occur in just a few months.

For those that are not familiar with a lockup, it is basically a restriction that early investors cannot sell until after a certain expiration date following an IPO. Groupon has a lockup period end date of May 2nd, while Zynga's is May 29th.

These early investors and even founders have begun to realize that valuations for these company's are getting ahead of themselves. Take for instance, Mark Pincus, founder and CEO of Zynga. He sold $110 million worth of stock before the IPO. Pincus could have sold because he wanted to get liquidate some shares before he was locked in when the company IPO'ed.

Its also important to know that each of these companies has released under 20% of the total float to the public. Not only does Zynga's management have stocks that are restricted, but so do employees. There is a pretty good chance that many employees will sell some or all of their holdings when the opportunity comes.

Groupon still has 93.7% of its share remaining. Zynga has around 90% of shares that are restrictred. Once the lockup is over, these shares could be sold to the public.

A 50% downturn is actually a conservative estimate. Most of the people that will opt-in to sell will be underwriters or early investors who were pushing for the company to go public. Management and founders will likely retain a large portion of the shares, but due to the limited amount of profitability for these companies, I am sure they will sell stock over time in order to supplement their lifestyles.

LinkedIn (NYSE:LNKD) and Pandora (NYSE:P) are companies that have both saw their lockup periods end late last year. LinkedIn saw three times the average daily volume when the lockup period ended. Pandora fell 5% on the day the lock-up period ended.

However, its important to note that the damage from the lockup periods will be much more severe for Zynga and Groupon, than compared to LinkedIn and Pandora. This is because Zynga and Groupon's floats are even thinner than that of LinkedIn or Pandora.

Investors should consider the lockup period end date as it will be a pivotal point in the supply of shares to the open market. Many insiders waiting to sell will finally be able to liquidate their stocks and this could be put significant downward pressure on these stocks that already have high valuations.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.