My previous post examined the recent Facebook IPO and started to list some of the lessons that you could learn from what happened.

This post provides lessons 5 through to 9 to complete the list.

If you missed part 1 with lessons 1 to 4, then click here to read them first and for a reminder of the IPO and what happened afterwards.

My list is not intended to be exhaustive and so you may think of some other lessons yourself.

If you do, please post them in the comments below so that your fellow readers can share your knowledge, insight and learning, which after all, is what this blog is for.

So without further ado, back to my list…

Lessons Learned (continued)

5. The market gets it wrong occasionally, but not that often

The events following the IPO suggest that it was over-hyped and overpriced.

Other sources have reported that this Facebook IPO is “the worst IPO in a decade.

How does this marry up with the hype that we heard before the IPO event?

Well it suggests that the hype was wrong!

6. Beware price rises on day 1 that fall away afterwards

The price rise on day one was due to an influx of people coming to the market to buy some shares for the first time.

This is okay and to be expected, especially for a company as popular as Facebook.

What I am less happy about though is that Facebook employed underwriters.

If you don’t know what underwriters are, they are paid by the company (Facebook in this case) to buy shares if the price falls too low.

The company paid them to be active in the market for the first few days, buying Facebook shares on behalf of the company.

This has the effect of artificially increasing demand and raising the price of the shares in the market for those first few days.

Why would Facebook do this?

Well, for the simple reason that they were aware that the initial price was “towards the top end of the valuation” (well beyond it in my humble opinion) and wanted to avoid the embarrassment of their shares trading below the IPO price in the first few days.

Let’s be clear here, underwriters are not acting in the best interests of the shareholders because their intervention is short lived (for a few days only) and means that anyone buying shares in those first few days pays more than they would otherwise do.

Of course, anyone selling shares in those first few days will benefit from the inflated price – people such as the CEO, Mark Zuckerberg, who sold 30 million shares and raised $1.15 billion for himself in the process!

7. It is often cheaper to buy shares after the IPO is over

This is certainly the case with Facebook and is still the case today.

For some reason, less-experienced investors seem to think that they have to buy their shares at the IPO or on day 1 when this is simply not the case.

Others seem to think the shares will only go upwards and so will be cheapest at the IPO and this is rarely the case either.

On the occasions when shares go up and up, the initial valuation and initial share price is priced towards the lower end of expectations, rather than the higher end as happened with Facebook.

Companies that price their new shares towards the low end are striking a fairer balance between the company’s need to raise cash and the need of investors to make money too.

Sadly this looks not to have been the case this time.

8. Why are they floating now when they don’t need the cash?

Companies usually float on a stock exchange when they need to raise funds for expansion.

This did not seem to be the case for Facebook as it is flush with cash, so why float now?

The company raised $18.4 billion in the flotation, but what are they planning on doing with that cash?

Skeptics would say that Facebook’s management could see it nearing saturation point for its user base and so the maximum price for the shares would be achieved now.

For pre-IPO investors such as Mark Zuckerberg, the CEO, it makes perfect sense to sell at this point because he gets to maximize his raising of money from selling off a minimal percentage of his company.

However, for those of us that are new investors coming to the party at or after the IPO, we want some fast growth to still be ahead of us and not all behind us, don’t we.

This could still be the case, but I suspect not and the evidence in the IPO prospectus suggests not too!

9. Are the management team realistic about their pricing of their shares and their prospects?

If you needed any evidence that the management’s realism is absent, you only have to look at the purchase of Instagram.

I wrote about this here so I won’t re-cap now.

Suffice it to ask, “is a company with only 13 employees, no sales revenues, no profits and a single FREE product in a competitive marketplace of highly fickle users worth $1 billion?”

And here’s another question…

“If you had a spare billion dollars, would you spend it on Instagram?”

I think you know what my answers to these 2 questions are going to be – what’s yours?

So that’s the end of my list – I hope you find it useful and that you have learned something – I have just by doing the exercise and creating these two posts.

I’d be very interested in your views on the list, so please leave me a comment below and tell me what you’ve learned from all this.

Alternatively, let me know if you have found this article useful by leaving a comment or clicking the share buttons.