This week I added two new stocks to the Revolution Investing portfolio, including the now much-maligned Facebook, FB. Because as I see it, the IPO was a raging success and because it was such a success, it has made investing in Facebook here much cheaper than it would have been otherwise.
Now I know the gist of what you’re shouting as you read this:
“Facebook’s IPO was the biggest flop of all time! Morgan Stanley sold too many shares at too high a price! Nasdaq screwed up the execution so badly Facebook is switching to NYSE!!!”
Well I’m here to tell you that Facebook’s IPO was bad for some, but absolutely not for Facebook FB +0.80% . Let’s consider a tech IPO that everyone agrees was a ‘success’, Linkedin LNKD -0.02% . The professional social network was basically the first Web 2.0 company to go public. Here’s the Marketwatch headline from May 19th:
LinkedIn’s stock soars in IPO
Shares surge, valuing company at roughly $8.9 billion
May 19, 2011|Benjamin Pimentel, MarketWatch
SAN FRANCISCO (MarketWatch) — Shares of LinkedIn Corp. more than doubled Thursday in a strong public-trading debut, highlighting investors’ pent-up demand for ownership in a new class of social-networking companies.
Some people might call it a success, but I call that IPO doubling on its first day a complete disaster. Flip it! Because what this really means is that Linkedin left about $4.5 billion dollars on the table.
Think about it, if the stock popped so much on the first trading day that means that Morgan Stanley and Bank of America vastly under-appreciated what investors would pay and how much stock they would want. Companies going public, especially buzzy tech ones, have put up with this devil’s trade-off for years: you let your underwriters sell the stock on the cheap to Wall Street insiders so they can keep the client base happy that you need to pull off a large offering. And Facebook totally flipped that table over on Wall Street’s head by squeezing every last dollar out its IPO.
Instead of letting its enormous group of underwriters hand their clients free money, Facebook upped the size and price of their offering at the last minute. So now the shareholder base isn’t the flippers and sellers that typically accompany an IPO, it’s enormous mutual funds like Fidelity and Blackrock that have to own Facebook and long-term investors. And all the underwriters, which include everyone on the street, from Wells Fargo to Goldman Sachs to Citigroup just has to deal with it. Yes, the little guy that bought through E-Trade on the first day has taken a hit too but since they don’t have to deal with the pressures of running money like high-water marks, the ones who are still holding on after such nastiness are likely very long-term shareholders. If you’re getting long Facebook now, you’re doing so at 40% below its first tick as a publicly traded company.
And more importantly, I’m buying Facebook because it now boasts one of the most pristine balance sheets out there and it’s suddenly looking very cheap. Yes, Facebook is cheap at $26 a share. Here’s why. The proceeds from the IPO are around $16 billion. With a market cap of about $63 billion that means you’re buying in at just around the valuation Goldman Sachs GS +2.66% invested at ($50 billion + what’s now in the checking account) in it back in January of 2011. With just over two billion shares outstanding that means Facebook has about $8 of cash per share.
The company is quite definitely cash flow positive and will be for the foreseeable future, and that means you’re actually buying the stock at only $18 a share, when you include that $8 per share that the company has in its checking account because of that hugely successful IPO they just pulled off. The analysts are still estimating an average 54 cents of earnings for this year and 65 cents for 2013. That means, I’m buying a company a soon-to-be must-own for every tech mutual fund and money manager’s portfolio that just came public for only 25x next year’s earnings.
I am stepping in and buying both some common stock, as I instructed my Revolution Investing subscribers at MarketWatch to do and some longer-dated calls in FB as I detailed on me separate service, TradingWithCody.com. I think Facebook is one of the best trading setups right here right now that I’ve seen in a long time. Much of the current sell-off is because the IPO price has been “broken” and all the speculators from the IPO are still trying to get out of it. That’s a technical force in the markets that is likely giving us a great opportunity to buy this stock cheaper than we’ll ever see it again for a very long-time. It might take a week, and it might take a month, so give yourself a little room if you’re doing the trade too, but I do think FB at $26 a share in June 2012 will turn out to be a very good buy.
Getting long a stock no one else likes is hairy business, and if it goes down 20% from here you won’t get any backslaps or high-fives at cocktail parties. As I’ve pointed out before, buying Microsoft in the months after the IPO wasn’t easy either, but those who held on for the long-term have done better than almost any other class of investors in the last 30 years. The comparison is apt. Microsoft was the operating system for the PC revolution; Facebook is the operating system for the cloud/app/mobile revolution and isn’t going anywhere anytime soon.
Finally, do you know anybody who’s willing to stick their neck out and buy FB now that it’s come public in a wildly successful manner for the company’s balance sheet but has sold off 40% from it’s opening tick? No? Nobody has any confidence in FB right now? I’ll bet they will have confidence when the stock is higher. I’d probably rather be a seller at that point — buy low, sell high is the idea, right?
Facebook just pulled off one of the greatest shorts in the history of the market — they sold their own stock high and got the proceeds for it and now we can buy it in the aftermarket for cheaper than the insiders were getting it for a year and a half ago when it was a fraction of the size it is now.
Ashwin Deshmukh assisted with the writing of this article.
Cody Willard writes Revolution Investing for MarketWatch and posts the trades from his personal account at TradingWithCody.com. At time of publication, Cody was net long Facebook.
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