End Of LinkedIn's Lock-Up Period Does Not Bode Well For Investors

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History could be repeating itself as signs of another IPO bubble are beginning to emerge just over a decade after the Dot-com boom. In fact, May 2011 was the busiest month for tech IPOs since 2000 and the $22 billion raised by IPOs during the first half of 2011 was the most in the U.S. since 2007. This time around it’s the social-media IPOs that are drawing the most attention. These new social-media sites such as Groupon (GRPN), Pandora (P), and LinkedIn (LNKD) have been receiving valuations that would make even Pets.com blush.

Of these social-media IPOs, LNKD’s offering grabbed the most attention when its shares boomed to a high of $122 from $45 during its first day of trading. In its May IPO, LNKD offered less than 10% of its shares outstanding—just 9,016,000 shares out of a total of 97,555,614. Investors would be right to question if the low float is creating an artificial sense of demand.

On Monday, LNKD filed a S-1 Form with the SEC for a secondary offering of 8.8 million shares at a share price of $71 to raise capital for the company and to assuage the effect of the lock-up’s impending release. Anyone who offers their shares in the secondary offering will have to wait 90 more days to sell additional shares. Nonetheless, on November 20th, the original lock-up period will end and 24 million shares will become available to be publicly traded:

In addition, upon the release of the underwriters’ lock-up from our initial public offering, which will occur on November 20, 2011, approximately 24 million shares will be eligible for sale, subject in some cases to volume and other restrictions of Rule 144 and Rule 701 under the Securities Act.

Another 56 million shares will become available 90 days after the secondary offering in the extended lock-up period:

Upon the release of the underwriters’ lock-up from this offering, expected to occur 90 days after the date of this prospectus, approximately 56 million additional shares will be eligible for sale, subject in some cases to volume and other restrictions of Rule 144 and Rule 701 under the Securities Act.

This does not bode well for the short term prospects of LNKD’s shares. The sudden injection of shares into a market with an average daily trading volume of less than one million will put tremendous downward pressure on LNKD’s share price. Low float, overvalued stocks usually plunge significantly in the weeks before and after the lockup expiration. LNKD appears to be following suit by dropping from a high of $94.32 on October 28th to a closing price of $74.92 this Thursday.

In the immediate short term, though, shares of LNKD may stabilize or rise in value due to the over-allotment option as, according to the S-1 form, the underwriters may engage in transactions that stabilize, maintain or otherwise affect the price of the Class A common stock. Investopedia provides a good summary of how the over-allotment option could be utilized to stabilize or drive the share price up:

Other times, the purpose of issuing extra shares is to stabilize the price of the stock and prevent it from going below the offering price. If the stock price drops below the offering price, the underwriters can buy back some of the shares for less than they were sold for, decreasing the supply and hopefully increasing the price. If the stock rises above the offering price, the overallotment agreement allows the underwriters to buy back the excess shares at the offering price, so that they don't lose money.

Even if you believe LNKD is a strong company with a solid future, it’s tough to believe there’s any upside in the growth story when its EPS are already projected to grow 40% annually. LNKD’s 5-year PEG ratio is 29 with a forward P/E of 57 based on projected earnings up to 2016. Simply put, if LNKD’s share price held steady for the next five years and lived up to its growth expectations, you would still be paying a hefty premium for its shares.

Doug Anmuth, one of the IPO’s underwriters from J.P. Morgan, bases his $85 share-price target for LNKD on a discounted-cash-flow analysis that projects 20% annual revenue growth and 30% cash-flow increase from 2012 through 2020. Unless you are confident that LNKD will become one of the most successful growth companies in history, then it’s safe to say that LNKD is a company you want to stay away from except to short and to buy puts.

Moreover, the mass amounts of insider selling should alarm investors. LNKD itself plans to offer 1.27 million shares while insiders plan to sell a total of 6.73 million shares in the secondary offering:

  • Bain Capital will sell all of its 3.71 million shares
  • Chief Executive Officer Jeff Weiner plans to sell more than 372,000 shares
  • Chief Financial Officer Steven Sordello is offering more than 98,000 shares
  • Greylock Ventures plans to sell 10 percent of its 14 million shares
  • Bessemer Venture Partners plans to sell 11 percent of its nearly 4.6 million shares.
  • Allen Blue, LNKD co-founder, is offering more than 118,000 shares
  • Steven Sordello, LNKD's chief financial officer, is offering more than 98,000 shares.
  • Dipchand Nishar, a senior vice president in charge of products, is offering 94,500 shares.

As previously noted by the Wall Street Journal, employees and shareholders are counting down until they can cash in on their shares. Don’t get left behind.

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