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The Landscape for the Facebook IPO

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When Facebook CEO Mark Zuckerberg announced earlier this month that the company was finally ready to have its much-awaited Initial Public Offering, the move was immediately hailed as the largest IPO in American history. The value of the company has been bandied about at around $100 billion, although it is selling only enough stock to raise somewhere between $5 billion and $10 billion. A sale of 200,000 privately held shares, conducted by the private-stock firm SharesPost earlier this week, would put the current value of the company at $98 billion.

Most of the discussion around Facebook’s enormous influence has focused on the number of users it claims to have (845 million), but filings for the IPO revealed that its financial health is commensurate with those staggering numbers. In 2011, Facebook earned $3.71 billion in revenues, of which $1 billion was pure profit. And those revenues were up 88 percent from the year earlier.

All of this promises to inject some excitement – not to mention some dollars – into an IPO market that has been fairly moribund lately. In 2011, the average IPO jumped 30 percent on opening day, only to end up falling back below its opening price, according to information compiled by Atelier Advisors. Atelier points out that six of the most highly anticipated IPOs of last year – Demand Media, Pandora, LinkedIn, Groupon, Zynga  and Angie’s List – all closed the year below their IPO prices.  All told, the FTSE Renaissance U.S. IPO Index, which tracks stocks from the date of their IPO to two years forward, lost 21.4 percent in 2011.

LinkedIn would seem to provide a template for Facebook, as the business models are very similar. LinkedIn is to business relationships what Facebook is to personal relationships. It went public last May, and closed on its first trading day at a split-adjusted price of $94. But it hasn’t traded at that price point since August of last year, although recent closes have brought it almost all the way back.

According to Renaissance Capital, there have been 16 IPOs priced so far in 2012, down about 30 percent from the same time last year. This year’s crop has raised about $1.5 billion, compared with $8 billion by this time in 2011. A majority of companies planning IPOs recently have been forced to reduce the price for their stock, sold fewer shares than expected, or both.

On the other hand, the results for those who have made it into the stock markets have been strong. The FTSE Renaissance U.S. IPO Index is up 14.3 percent for the year, significantly outperforming both the S&P 500 (up 7.5 percent) and the Russell 3000 (up 8.5 percent). That suggests that some sort of winnowing-out process is at work, pushing the weaker IPOs to the side but leaving only the best companies to make it to market. 

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Facebook will obviously be one of those strong companies when it has its IPO, now expected to happen sometime in the late spring. With all the hype surrounding it, many are acting as if they expect a return to the go-go Nineties, when IPOs for companies like and briefly made millionaires out of their owners, despite the fact that those businesses had nearly nothing in the way of revenue aside from hopes and promises.

But it’s worth noting that even back then, an IPO was never a guaranteed path to success. Between 1980 and 2009, the average IPO saw an 18 percent jump on its first day — but gained only 21 percent over the following three years. That’s not even enough to beat the overall average market return.

The real plan for Facebook is not to be a dot-com wonder with a 130 percent pop on IPO day, a la eToys. What Facebook really wants to be is the next Google — an Internet highflyer that doesn’t crash and burn, but rather settles in for extraordinary growth over the long haul.  

On the day of its IPO in 2004, Google’s stock got the customary first-day 18 percent pop. But rather than the customary meager follow-up performance, its stock gained more than 400 percent over the next three years. And the stock has continued to add value since then.

For Facebook to match that kind of performance may be asking a lot. Based on the company’s 2011 revenues and that $100 billion valuation, the stock would be trading at 26.9 times 2011 sales, which is five times as much as Google is trading at. But then again, Zuckerberg has always been willing to dream big.