The world's most popular social networking site, Facebook (FB), launched its initial public offering (IPO) last Friday, May 18. On Thursday the 17th, Facebook announced the IPO stock price would be $38 per share. Just eight years after the social networking site was formed, its IPO is the third largest in the history of the United States, valuing the company at $104 billion.
Facebook stock opened around $42 on Friday, about 4 dollars above its IPO price. However, by the time markets closed Friday afternoon, it was just 23 cents above its IPO. Some see this lack of a market gain as a huge bust for Facebook's IPO, while other analysts are not surprised by the lack of volatility from its initial $38 per share price.
It is imperative to differentiate between a successful IPO for Facebook versus what its investors may have like to see. Facebook likely succeeded in raising a huge amount of money through the public offering, which brought $16 billion to the company. Furthermore, since Facebook's share price stayed fairly consistent, never too far above the IPO price, it seems as though it should be pleased with the accuracy of its $38 initial price.
On the other hand, Facebook's IPO may be considered a bust because private investors had already increased Facebook's value to around $100 billion. This was done before any shares were publicly traded, which leaves little room for easy growth in the company's valuation. Comparatively, when Microsoft (MSFT) went public in the mid 1980s, its market value was $780 million. Google (GOOG) went public with a much higher market value than Microsoft, at $23 billion; however that is still significantly less than the $100 billion mark of Facebook. Had Facebook gone public one year ago, it may have looked like a more successful IPO.
After its second day of trading publicly on Monday, May 21, Facebook stock fell to around $34 per share, losing about $10 billion in the company's market value. This may be a sign of what is to come after such a highly valued IPO left little room for growth.
While this drop in stock price may not be helpful for current investors, it truly only shows that the company is overvalued in the near term. With a little bit cheaper of a price, and the unknown upside of the technology sector, I may be inclined to move Facebook into the "buy" category. Future potential will depend on the abilities of CEO Mark Zuckerberg, and the success of Facebook's advertising - its main source of revenue.
There have been concerns that Facebook will be unable to attract enough advertisers to bring in the revenue needed to justify such a large market valuation. Whether a company is in the technology sector or the consumer goods sector, a warning flag should be raised to all potential investors if that company is unsure about the endurance of its main revenue stream. In this case, advertising accounted for 85 percent of Facebook's $3.7 billion revenue last year.
General Motors (GM), one of the three largest advertisers in the United States of America, recently decided to shut down its $10 million Facebook advertisement campaign due to its ineffectiveness. While General Motors was not a huge contributor to Facebook's advertising revenues, a note should be made when one of the largest, most experienced advertisers in the country eliminates one of its advertising campaigns. This could be a bad sign of what is to come for Facebook's profitability.
CEO Mark Zuckerberg has made it clear that he will not sacrifice the product he offers to social networkers for added revenue. Instead of allowing traditional advertisements on the site, Zuckerberg wants the advertising companies to reach out to the consumers and interact with them. The ability of Zuckerberg to further transform the data accumulated from users of Facebook into a tool that advertisers can capitalize upon will be critical for Facebook's future success.
In the computer services technology sector, Facebook is best compared to Google. Google went public in 2004 at a share price of $85. Google had a well-developed business plan and revenues of about $2 billion per year at its initial public offering. Facebook, on the other hand, is more of a well-developed asset - a huge pool of data based on the interests of almost one billion users - as opposed to a well-formed business model. Google has broadened its horizons, expanding from a search engine to social networking, partnering with YouTube, even acquiring Motorola Mobility, the successful smart phone producer.
In the eight years following Google's initial public offering, Google's stock has rose to right around $600 per share. Whether Facebook will be able to expand into new revenue streams, or thrive in its advertising market remains to be seen, although there is little doubt that the potential upside for the company's stock is huge.
Facebook sits in the middle of a social media boom that includes companies such as Zynga (ZNGA), Linkedin (LNKD), and the aforementioned Google. The initial public offering of Facebook seems to have dragged the stock of these other social media companies lower. Zynga, the online social media game maker whose games are primarily played on Facebook, had fallen to its lowest value since December's initial public offering. Linkedin, the social networking company for professionals, had seen its stock at its highest value since it's initial public offering about a year ago, and has since seen a significant drop of about $20 per share over the past week.
Private investors spent $1.4 billion on investments in Internet companies in just the first quarter of 2012. It seems that this has set up a social media bubble that may have these various companies self correcting through lower stock prices and drops in market value.
Given Facebook's struggling stock price, potential problems with the advertising revenue stream, and the inability for social media to get a firm hold in the stock market, I cannot outright suggest purchasing any social media stock, including that of Facebook. However, I do believe there is huge potential for Facebook and with the fairly low stock price of the $30 to $40 range, there is more upside potential than there is downside.
With a few smart moves by Zuckerberg, Facebook stock could see increases in revenue and eventually big jumps in its stock price. While you could lose more than $30 per share if Facebook bankrupts, you could also stand to gain hundreds per shares if Facebook follows the steps of Google from just a few years ago. Therefore, if Facebook's price drops just a bit lower, I think buying Facebook stock is worth the risk. I recommend buying on dips to $30.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.