Facebook’s Postponed IPO: A Wise and Patient Strategy

Social media giant Facebook’s decision to delay its much-anticipated initial public offering until the end of next year reflects the poor climate for IPOs this year, but also underscores the fact that the company is in no real hurry to go public.

According to the Financial Times newspaper, Facebook’s Chief Executive Mark Zuckerberg wants to delay the public offering in order to keep employees focused on product developments rather than a pay-out.

Lise Buyer, founding principal of the Class V Group, which assists private companies contemplating an IPO, told FT that Facebook’s postponement was logical.

There's really no reason to rush a deal,” she said. “The company [Facebook] doesn't need the money. It is a little easier to focus when you're private. They'll go when they're good and ready, not before.

Buyer added: “There are so many things you don't have to do until you take public shareholder money. You don't have to take investor phone calls or show up at investor conferences.”

Lawrence M. Glazer, managing partner at Mayflower Advisors in Boston, explained to International Business Times: “many firms are rethinking the timing of their public [offerings]. Staying private offers some advantages -- particularly by limiting the scrutiny of public filings. From a competitive standpoint, staying private can temporarily keep employees hungry and motivated in anticipation of the IPO event.”

Indeed, Facebook’s management may view an IPO as a kind of “distraction” for its employees while the company is busy ramping up several new product lines and other projects.

There are many benefits for a company remaining private -- especially a sterling firm like Facebook which has no problems whatsoever raising cash whenever it wants. A private company doesn't have to heed the demands of shareholders, many of whom are focused on short-term gains and immediate spikes in earnings growth.

Anna N. Danielova, assistant professor of finance at the DeGroote School of Business in Hamilton, Canada, told IB Times that if Facebook went public now, one of the most obvious drawbacks would be the loss of voting control of common shares.

“They would have to become a more transparent company and file financial statements and other forms with the SEC, and there would be more scrutiny from financial markets, investors and analysts,” she said.

“In addition, as a public company, the profits generated for the original equity-holders would be reduced -- because now they would have to be shared with new stockholders.”

Moreover, 2011 has been an unkind year for IPOs, particularly in the tech arena. Aside from the wildly successful LinkedIn (Nasdaq: LNKD) -- which has almost doubled in value since its May public sale -- many others have sharply declined in price.

For example, Chinese social networking company Renren (Nasdaq: RENN) has plunged about 57 percent since its IPO in early May, while Demand Media (NYSE: DMD), an online content producer, has plummeted 53 percent since its IPO in January.

Tim Moore, a portfolio manager at Cabot Money Management in Salem, Mass., told IB Times that of the 108 companies that have gone public in the U.S. this year, almost two-thirds (63 percent) have slipped below their offering prices (some are now substantially underwater).

“The appetite for public offerings seems to have dried up since about July,” Moore stated. “LinkedIn timed their offering pretty well, but there now appears to be a ‘scarcity premium’ on social media network companies.”

Other social media firms, including network game developer Zynga and discounted gift certificate Web site Groupon have also decided to hold off on going public.

However, Moore points out that Facebook is a vastly different case than Zynga or Groupon.

“Facebook generates a lot of revenue and has many facets to its operations,” said Moore. “In contrast, Zynga is viewed by many as being a ‘one-trick pony.’ Groupon postponed its public offering for an eyebrow-raising reason – the company has been questioned by the SEC [Securities and Exchange Commission] over its accounting of customer acquisition costs.”

Indeed, the SEC is probing some “self-selected financial metrics” Groupon included in its pre-IPO paperwork, which raised questions about the veracity of the company’s financial disclosures.

“In contrast, Facebook isn’t delaying its IPO over any legal, structural or operational issues whatsoever,” Moore noted.

“Facebook is also a much bigger company than Zynga and Groupon with a much stronger business model. For example, Facebook boasts net profit margins of about 35 percent, which is far higher than its peers.”

In addition, Facebook could generate $3 billion to $4 billion in revenue in 2011, according to Moore.

On the other hand, one principal reason for Facebook to go public would be to provide a tremendous payday for employees who have stock options -- thereby, retaining their talents.

“Facebook has raided Google, Apple, Amazon and other companies for coveted and talented engineers,” said Moore. “And Facebook would like to hold onto them.”

Danielova points out there are indeed some other benefits to going public.

“More visibility, better ability to handle increased financial risk (if such a thing were to happen), and an increased flexibility for future financing -- both equity, possibly debt market and commercial paper,” she said.

“In addition, there would be more liquidity of shares since the original shareholders could dispose of shares easier because of the existence of a public market. There would also be increased flexibility should Facebook decide to go shopping for other firms -- if they were private they would have to pay cash, if public, they would have option to pay in shares.”

Moreover, she noted, one of the biggest advantages for original shareholders is that an IPO would monetize their stock positions, and could even lead to better valuation (as long as the company is managed well).

Danielova also indicates that by going public, Facebook’s top managers would likely retain a pivotal voice in the company’s direction and strategy since they would likely control the majority of voting shares.

“Even if they do not have a majority.. the top managers still would have key voices, because much like with Apple, Facebook is a vision/creation of one key person, Mark Zuckerberg, and to continue creating, he probably would continue enjoying the same amount, or only slightly less, of the managerial flexibility in governing Facebook,” she added.

Still, it would appear that factors in delaying an IPO presently outweigh reasons for going public anytime soon.

Facebook is also likely waiting for the company to keep building out its subscriber base (now 750 million and growing) while continuing to increase its perceived valuation.

As a nonpublic company, Facebook shares already trade on private security markets. Valuation of the firm has ranged from $50 billion to $100 million, or even higher. Moore noted that the valuation of the company was reduced to about $75 billion in the second quarter from about $85 billion in the first quarter.

Facebook may also be following the course taken by Google Inc. (Nasdaq: GOOG), which waited about five years before going public in 2004, in the wake of the tech-internet meltdown earlier in that decade.

Indeed, Peter Thiel, a prominent Facebook investor, told FT that Google’s wise patience paid off.

It was a good competitive strategy, he said. And it culturally orientated people toward long-term value and not quarterly numbers.

However, there is one more wrinkle in the Facebook IPO saga.

According to SEC regulations, once a private company has 500 shareholders, it is required to file its financial results to the public in the first quarter of the following year. Facebook reportedly passed the 500 number in January when Goldman Sachs came aboard as a major investor. This means that by next spring, Facebook will be forced to release its financial statements. Assuming, Facebook hasn’t filed for a public offering by that point, it would be interesting to see if the revelation of its financial condition changes its IPO strategy.