FACEBOOK, INC: THE INITIAL PUBLIC OFFERING

Question 2.- Why is Facebook going public? What is the planned use of proceeds from the
offering?
In February 2012, the underwriters circulated an initial Red Herring that announced the
intention of Facebook to sell unspecifies amount of class A common stocks. According to the
case paper elaborated by Ken Mark (2014, P. 2), the company based in Palo Alto, California, had
the purpose to create a public market for the existing shareholders and to enable future access
to the public equity markets through its IPO.
The proceeds would be used for working capital and other general corporate purposes.
According to Mark (2014, P.2), given the raising popularity and visibility of social media
companies, the financial market thought that it was only a matter of time before Facebook
went public.

Question 3.- What was going on in the U.S. IPO markets prior to Facebook’s offering? What
has been the performance of recent IPOs?
Facebook decided to launch its IPO when the global economy was still recovering from the
global financial crisis that started in 2008 with the fall of Lehman Borthers, that by 2010 led an
important part of Europe to a sovereign debt crisis.
Although the American economy was slowly recovering, the unemployment levels remained
above 8% and the GDP was still below the 3.3% annual average from the 1980s and 1990s.
Opposite to the economy, the stock marker was in a strong shape by May of 2012, and S&P 500
Index raised 21% compared to November 2011. However, this lasted only couple of weeks.
Because of the global economic situation, investors turned bearish, and by mid-May, the index
fell 5%.
The NASDAQ 100 Index rose 17% between mid – December 2011 to mid – May 2012 but stayed
there with no signs of movements upwards.
In the middle of this context, three other digital companies decided to launch its IPO: LinkedIn,
Groupon and Zynga, with mixed results.

 LinkedIn, the success story: Issued 7.84 million shares in May 2011, at $45 each for
gross proceeds of $353 million, which resulted in a firm valuation of $4.3 billion. The
social network that focuses on professional networking and career development
(Business Insider, 2019) had increased its price talk from a range of $32 to $35 to a
range of $42 to $45 on the day before the pricing. On the first day of trading, LinkedIn
shares rose by 109% and closed at $94.25- Over the following year, the shares kept
rising to $110.56 and obtained a total gain of 146%.

 Groupon, what goes up, must come down: The digital coupons provider, Groupon,
went public in November 2011 and raised $700 million “in the largest U.S. tech IPO since
Google” (Mark, 2014, p.5). Due to a strong investor demand, the underwriters increased
the number of shares offered from 30 million to 35 million and had priced shares at $20,
above initial range of $16 to $18. This resulted in a $12.7 million valuation for the
company that barely was three years old when it launched its IPO. Although Groupon’s
share rose 43% the first of trading, by mid – May the stock price fell to $12.17, a loss of
about 39%.

 Zynga, born weak: Zynga, the online gaming company launched its IPO in December
2011 and sold 100 million shares at $10 per share. Although the deal was priced at the
high end of the price talk of $8.50 to $10 and valued the company at $7 billion, the
share price fell by 5% on the first day of trading. By mid – May, the shares were trading
at $8.56, 14.4% below its IPO price.

Question 4.- What is the intrinsic value of a Facebook share? How does this valuation
compare to the price talk from the underwriters?
According to the price reached during a private deal posted on SharePost, the share of
Facebook had reached $44 before the IPO. However, professor Aswath Damodaran calculated
an intrinsic value of a single Facebook share at $32.44 based on the Discounted Cash Flow (DCF)
analysis. A disadvantage of the method used by professor Damodaran is that it is very sensitive
to the assumptions used.
The price talk from the underwriters had a significant variation from February, when the Red
Herring was first filed to May. In February 2012, the talk was in range from $20s to mid - $30s
per share. An amended prospectus filed on May 9 – few days after the underwriters launched a
roadshow – indicated that Facebook would sell 337,415,352 shares at price between $28 and
$35 per share.
Couple of days after the prospectus was files, CNBC reported on May 11 that Facebook’s IPO
was “many, many” times oversubscribed. Although not everyone was convinced by this
comment, on May 14, the lead underwriters had raised Facebook’s IPO range to $34 to $38,
citing “overwhelming demand by investors”. The number of shares being sold also was
increased to 421,233,615, with all the additional shares being sold by Facebook insiders.

Question 5.- As a potential shareholder, what are your concerns about Facebook or its stock
offering?
1) One of the first concerns that came to our minds was the control level that Zuckerbeg
has over its company. According to the article, through his ownership of Class B shares,
Zuckerberg would directly and indirectly control 56% of the votes.
According to the explanation included in the Red Herring about this matter, Zuckerberg
controls de outcome of matters submitted to Facebook’s stockholders for approval,
including the election of directors and any merger, consolidation, or sale of all or
substantially all the company’s assets.

“This concentrated control could delay, defer, or prevent a change of control, merger,
consolidation, or sale of all of substantially all of our assets that other stockholders
support, or conversely this concentrated control could result in the consummation of
such a transaction that other stockholders do not support”. (Mark, 2014, p.6)

An example of this degree of control was demonstrated when Zuckerberg purchased

Instagram, a month prior to the IPO, for $1 billion in cash and Facebook stock, without
notifying the board of directors, until the agreement had been reached.

2) The lifecycle of the social media companies is another concern that we have. Although
Facebook has been in the throne of the social media companies for some years now,
cases such as MySpace make us consider the external factors that could affect the
viability of Facebook in the coming years.

The privacy matters, the birth of new social media platforms and the change in the
user’s preferences can affect the amount of Monthly Active Users (MAU) or Daily Active
Users (DAU) of Facebook that are the core of their business model.

We also need to consider how at the time of its IPO, the mobile users were increasing,
but Facebook could not display ads to mobile users. As explained in the case, this reality
threatened to cannibalize Facebook’s advertising revenues, un less it found a way
around.

So far, Facebook has been able to purchase new platforms, such as Instagram or
WhatsApp, that has enabled it to keep the pace of changing preferences of social media
users, but we cannot ignore how volatile this industry is.
 3) According to the DCF analysis performed by professor Aswath Damodaran of NYU, the
revenue growth rate of Facebook will start to decline considerably from 2017 onwards,
until reaching a one-digit growth after 2020.

Question 6.- What is your recommendation for the CXTechnology Fund?

We would recommend CXTechnology to purchase shares of Facebook, but not to buy a very
high amount of stocks and diversify its portfolio in order to diminish the risk of its stock
investments.
Although Facebook is a stable social media company, the industry itself is very volatile and this
could affect the share price of different enterprises.
However, we consider that, due to the initial high demand for the Facebook stocks,
CXTechnology could buy shares, hold them for a short time and then sell it for a higher price to
the market.
We also recommend keeping a close eye to the movements made by the company, especially
the purchases made by its founder and CEO Mark Zuckerberg and analyse if it would add value
to Facebook and its financial situation and long-term viability. So far, the purchases made in the
past have been positive for Facebook, but some companies that were purchased with very high
valuations in the social media industry have disappeared without much fame or glory.

Bibliography:
Mark, K. (2014). Facebook, Inc.: The Initial Public Offering (A). Harvard Business Publishing
Education.
Johnson, D. (2019). 'What is LinkedIn?': A beginner's guide to the popular professional
networking and career development site. Business Insider. Retrieved July 26, 2020 from
https://www.businessinsider.com/what-is-linkedin?r=MX&IR=T