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The Facebook IPO Primer: High Hopes, Big Risks

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Editor's note: the below is an excerpt from Part One of "The Facebook IPO Primer," written by financial journalist Nancy Miller.

Facebook wants to friend the stock market.

The Facebook stock offering crowns a long line of hot, high tech visionary companies making their way to the public. Apple (1980). Microsoft (1986). Netscape (1995). Google (2004). Each of these companies changed the way we live, work, even dream.

The numbers involved in the Facebook stock sale are huge – at $5-$10 billion it's the biggest high tech initial public offering ever for a company with nearly one billion users. Although only eight years old, Facebook may be worth more than the top two underwriters ushering it into the stock market -- Morgan Stanley and Goldman Sachs.

Together those two venerable Wall Street institutions employ nearly 100,000 people and bring in more than $60 billion in revenue, overshadowing the 3,200 employees at Facebook who helped the company earn $3.7 billion in revenue last year. It seems a bit odd to think that Morgan Stanley plus Goldman Sachs is equal to Facebook, or $100 billion. But so it is. And in the world of high tech, it's nothing new.

Over the past 30 years or so, the high tech industry has become the canvas on which we have painted the portrait of the self-made entrepreneur with the Midas touch. Unlike our attitude toward the titans on Wall Street, most feel they benefit from the vision of the whiz kid working feverishly in a dorm room or garage to create something new and wonderful. Hacking has come to replace the newspaper route as the symbol of youthful industry.

But where the industry of the delivery boy once pointed the way to a quiet, but satisfying middle class life, the high tech genius promises the potential for so much more wealth. Think Microsoft founder Bill Gates, the Mark Zuckerberg of his generation -- scrappy, rough at the edges, and high-minded-- and for the 18th consecutive year, No. 1 on the Forbes 400 richest in America.

Even Wall Street's millionaires can't compete with the riches these new age titans have created for themselves as well as for the people who work for and invest in them. For many, the entry ramp to a piece of those dollars doesn't arrive until the initial public offering (IPO) -- the first public stock sale by a private company. Through the magic of the stock market, everyone, even you, can share in it.

But, of course, the story is far from that simple. Great wealth has been both made and destroyed investing in high tech stocks over the past few decades, most spectacularly during the dot-com bust of 2000-2001. The lust for high tech wealth was so over ripe that bankers, investors, and even much of the media, competed to tout the brilliant future of companies that weren't bringing in any money at all. The revenues were, so to speak, virtual. In March 2000, the high tech laden Nasdaq composite index hit 5048 before collapsing 80% over the next two years. The Nasdaq remains nearly 40% below its infamous high.

Fast forward more than a decade. The broader stock market is now in position to challenge the highs set before the Great Recession. A bevy of Internet companies are suiting up for a market debut. This year's flavor: social media. There's business networking site LinkedIn; social coupon clipper Groupon; Words with Friends maker Zynga, and many more. Will Facebook be a winner or a great story gone awry?

One thing is clear: The Facebook IPO will shower great wealth on those who bought into the vision of a 19-year-old computer rising star. It's not as clear that anyone who buys the IPO after it begins trading (in the secondary market, in the parlance of Wall Street) will be nearly as lucky.

Take a look at the seminal stock of 1995 to give you a sense of what can go right and then go really, really wrong with a visionary stock. And then consider two other companies, contemporaries to Facebook who have seen very divergent fates.

IPOs, Mania, and Dreams

On August 9, 1995, a young high-tech company named Netscape Communications sold five million shares for the first time to the public. It was a fledgling company and suddenly had a net worth of $2.2 billion. Net-who?

The company doesn't even exist anymore but it was a game-changer. “It was the spark that touched off the Internet boom,” wrote Fortune magazine in an article, describing nothing less than “the birth of the web.” The IPO, priced at $28/share, charged to $75/share during the first day of trading before settling at $58/share -- giving the company a value of $2.2 billion. Demand for the stock on the first day was so intense that trading on the Nasdaq stock exchange was delayed for two hours.

Within three years, the company was on life support. In no time flat, its share of the web browser market went from nearly 90% to single digits. AOL bought its remains but eventually ended up burying the company.

Netscape Navigator was thrilling. Everyone dismissed Microsoft's competing (and obviously inferior) product, Internet Explorer. Yet before Netscape came along, no one even believed that individuals would have any use for the Internet. On the tenth anniversary of the Netscape IPO, Wired magazine recalls how those days felt by flipping through the magazines of the day. Writer Kevin Kelly writes:

In late 1994, Time magazine explained why the Internet would never go mainstream: “It was not designed for doing commerce, and it does not gracefully accommodate new arrivals.” Newsweek put the doubts more bluntly in a February 1995 headline: “THE INTERNET? BAH!” The article was written by astrophysicist and Net maven Cliff Stoll, who captured the prevailing skepticism of virtual communities and online shopping with one word: “baloney.”

By August 1995, Netscape had changed all that. So, what went wrong for Netscape and its investors? And, how does it compare to Facebook?

netscape.jpg

Only 16 months old when it issued stock, Netscape was a great idea but an empty shell. No profits or cash flow. No real management experience. But Wall Street loved it for their its vision. Initially, the stock market rewarded the company. The stock rose fourfold within six months. But there was no happy ending. Microsoft ate Netscape's lunch.

Continue reading "The Facebook IPO Primer" by emailing editor[at]benzinga.com, visiting eBookIt, or at Amazon here.

Posted-In: Long Ideas Short Ideas Previews Psychology Topics IPOs Events Success Stories

 

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