The Facebook
IPO was supposed to be the kind of opportunity that customers of Wall Street wirehouses could look forward to. Instead, it has turned out to be another blemish on Wall Street's already tarnished image with retail investors.
Managing an initial public offering is more art than science as underwriting firms try to balance the interests of a company trying to raise capital with investors looking for a good return. Price it too low and executives will say you left money on the table; too high and the investors feel burned.
Facebook Inc. executives apparently had the upper hand with lead underwriter Morgan Stanley Smith Barney LLC in this deal. Not only did it increase the number of shares it offered to the public by 25% at the 11th hour, it still priced the deal at the high range of estimates. And it did so despite a late warning to the market that its advertising revenue was being negatively affected by user trends on the social-media network.
Public perception seems to be that Morgan Stanley favored institutional customers rather than the retail clients who make up the bulk of business for its 17,000 advisers. Published accounts claimed that many of Morgan Stanley's big clients got phone calls informing them that the firm's technology analyst had reduced his estimates for the company.
“This is clearly the latest in a long string of events that is eviscerating the confidence investors have in the market,” Andrew Stoltmann, a Chicago attorney who represents retail investors, told Bloomberg News. “The perception is Wall Street jiggered this
IPO so the underwriters made money, Facebook executives made money and the small investor got left holding the bag.”
Certainly, a fair number of institutional investors canceled their orders for Facebook shares. The Nasdaq exchange, in fact, blamed this flood of canceled orders for the execution mess on the first day of trading May 18. Retail investors, allocated about 25% of the Facebook shares offered by the underwriting group, piled into the stock.
For its part, Morgan Stanley said the firm informed all of its investors of the amendment that Facebook made to its prospectus May 9.
“After Facebook released a revised S-1 filing on May 9th providing additional guidance with respect to business trends, a copy of the amendment was forwarded to all of [Morgan's] institutional and retail investors, and the amendment was widely publicized in the press at the time.”
Either way, the Facebook fiasco can't be good news for reps at MSSB.
“The brokers are furious, and morale is at an all-time low,” said recruiter Danny Sarch, president of Leitner Sarch Consultants Ltd. “This looks bad for Wall Street generally and for Morgan Stanley specifically.”
Plaintiff's lawyers argue that Facebook and its underwriters weren't explicit enough in the prospectus about how user trends were affecting the company's business.
“Facebook said it could impact revenues, when in fact, they knew that it was already impacting revenues,” said David Rosenfeld, a partner at Robbins Geller Rudman & Dowd LLP, which filed a class action in the 2nd U.S. Circuit Court of Appeals in Manhattan. “It's one thing to say that there's a risk something may happen as opposed to it actually having happened already. The one place that information belonged was in the prospectus, and it wasn't there.”
Winning the suit could be difficult, however, if the case rests solely on the nature of the language used in its SEC filings. “It's fairly typical to use conditional language in prospectuses, because you don't know what's going to happen in the future,” said Jeff Karpf, a partner at Cleary Gottlieb Steen & Hamilton LLP. “The topic is covered quite specifically. I think it's going to be a tough case to make for plaintiffs.”
While analysts with underwriters of an
IPO [of a company like Facebook] are not allowed to publish research immediately before and after the offering, there's nothing that prevents an analyst from directly disclosing their opinions or estimates to an investor, said Mr. Karpf. Federal and state securities regulators may look to change the rules, but an analyst can communicate his or her opinions on an investment to anyone he or she wants.
“In response to the information about business trends, a significant number of research analysts in the syndicate who were participating in investor education reduced their earnings views to reflect their estimate of the impact of the new information. These revised views were taken into account in the pricing of the
IPO."
While Facebook left no money on the table at $38 a share, the stock price Tuesday dipped below $30.
“Morgan Stanley followed the same procedures for the Facebook offering that it follows for all IPOs,” the firm said in its statement. “These procedures are in compliance with all applicable regulations.”
That may prove to be cold comfort for retail clients who are sitting on stock that's now worth 20% less than when they bought it last week.
(Andrew Osterland is a reporter at
InvestmentNews. The views expressed are his own.)
