The Facebook IPO: Bitches Be Crazy

Recently, I have been paying attention to a number of news stories. In no particular order:

1. The Facebook IPO

First, some key points:

1. Listing on a Stock Exchange is usually for good reasons - it is NOT just the next logical step in the success ladder;
2. "Retail Interest" is an investment banking euphemism for "bitches be crazy".

With regard to item 1, there seems to be the general conception out there that listing on a Stock Exchange is the business version of graduation. A "Congratulations, you've made it!" for juristic persons. Perhaps it's our human need to identify: we look on homegrown businesses with affection and despise the giant corporates for being inhuman. Sole proprietors are babies, private companies are the idealistic teenagers, and the big listed companies have grown up, sold their souls to the profiteering overlords and moved to a lush tropical island with exotic beaches and mythical tax rules.

Sometimes, this is true.

Mostly, it is not.

The reasons for listing on a Stock Exchange are roughly summarised as:

1. The world's equity markets are the largest source of financing anywhere. For the unlisted, you're mainly limited to borrowing money and/or putting in your own. But selling bits of ownership in the form of shares? Financial gold.

So that's the reason. Where it really gets interesting is  motivation. I reckon that there are roughly two motivations worth mentioning:

1. The first is that the owners want to raise the capital to expand/grow;
2. The second is that the owners want to cash in on their initial investment.

The first sounds like the type of share I want to consider buying. The second sounds like the type of share that I would only consider buying after getting some answers to some awkward questions.

Why would I prefer the first? Well - when the owners want to expand, I'm already beginning to think that they wouldn't have gone through all the effort (and cost!) to raise the money in an IPO if they weren't confident that they had a solid business plan in place. Obviously, I'd want to analyse that plan on my own (in case they're idiots); and see what the rest of the investing world is saying (in case I'm an idiot); and then compare the two (rolling the dice). Point is: these companies start out on the front foot.

But when the owners are looking to cash-in on their initial investment...

Instant hair-rise on back of neck. Because the question immediately becomes: why are they looking to cash-in at this particular point? And here are my thoughts:

• If I were the guy cashing in, I would be looking to sell off when everything is at its most valuable. 
• But because I'm human, and obey the standard rules of human behaviour and bias, I would be constantly weighing up my desire to maximise wealth against my emotional attachment to this company that I have nurtured ever since I dropped out of Harvard and stole the idea from those twins.
• Which means that I would only start to cash in when it became clear that I stood the risk of losing some of that wealth. 

Which leads me to the Facebook IPO.

$38 a share.

More expensive than almost ANY OTHER company in the S&P500 (although now, maybe it'll be the S&P501). It's being valued at almost 107 times earnings.

That's a PE ratio of 107.

Google's PE ratio is 18.19. Apple's PE ratio is 12.93. During the height of the dotcom bubble, the average PE ratio of the S&P500 rose to about 30. Sure, firms like Oracle had PE ratios as high as 120 - but that was during a pricing bubble that crashed chaotically. Oracle's current PE ratio is 13.48.

We must be serious.

There are 7 billion people in the world. Facebook now has 900 million users. But it doesn't have access to China*. That leaves it with around 5.5 billion. Assuming that the advertising revenue will grow with the consumer base, if Facebook is used by every single person in the world, its earnings will grow 6 times. And then what?

Someone needs to explain their growth plan with something other than "growing the consumer base".

I'm just saying.

#BitchesBeCrazy

*who no doubt will develop a version of Facebook known as Facedook that will be the same but cheaper - and the Chinese government will see no problem with it.