Skip to main content

Was Facebook's botched IPO a conspiracy?

By Aswath Damodaran, Special to CNN
May 28, 2012 -- Updated 1551 GMT (2351 HKT)
Facebook shares traded up initially when the company went public on May 18.
Facebook shares traded up initially when the company went public on May 18.
STORY HIGHLIGHTS
  • A week into Facebook's debut on the market, its price was down
  • Aswath Damodaran: Facebook's IPO debacle was result of ineptitude
  • Damodaran: Don't assume that bankers and experts know what they are talking about

Editor's note: Aswath Damodaran is the Kerschner Family Chair professor of finance at the Stern School of Business at New York University. He is the author of four books about valuation, including "The Dark Side of Valuation."

(CNN) -- A week into Facebook's debut on the Nasdaq stock exchange, its initial offering price of $38 per share dropped to $31.91. Retail investors' fears deepened as they realize they are losing a lot of money.

The Facebook IPO did not follow the usual script. Instead of launching the largest social media company in the world as a legitimate and valuable business, the IPO has laid bare all of the questions and doubts about its potential performance.

So why did the Facebook IPO bomb as badly as it did?

Aswath Damodaran
Aswath Damodaran

In a lawsuit filed last week, some investors contend that Morgan Stanley, the lead underwriter of the IPO, withheld key information about a negative financial forecast from them while sharing it with their institutional clients.

In this conspiratorial tale, the bad guys are the insiders at Facebook, the investment bankers and the favored institutional clients of these bankers. The bankers set the offering price at $38, knowing that the stock was not worth that much, the insiders in the company unloaded their shares at the offering price and institutional investors stayed on the sidelines. Individual small investors who bought at the offering price suffered as the price collapsed. In other words, the suckers are the rest of the world.

Opinion: Was Facebook IPO a bust?

Deconstructing the Facebook IPO mess
Media to blame for Facebook IPO issues?
Why is Facebook being sued?

But I don't buy this story. First, unlike many others who have seen the crises of the last few years as evidence that bankers are evil, I see them more as inept. Facebook's IPO is just proof that if you want something valued, you should not ask a bank to do it.

None of the actors in this story can be happy with how Facebook's IPO has unfolded in its first week. The investment banks look like bad "deal makers," which strikes at the heart of one of their few remaining revenue-generating skills. Any profits or commissions that Morgan Stanley booked on this IPO are overwhelmed by the reputation hit that it took and the consequences this will have on future deals. The Facebook insiders who remain have not only lost billions in value but have made it more difficult to unload their remaining shares down the road. And most of the shares at the offering price went to the institutional investors, who now face paper or real losses on those shares.

Facebook IPO: Outraged investor cries grow louder

So, what happened?

I think the investment bankers priced the offering based on how shares of Facebook were trading in the private market and their assessments of institutional demand. I don't think that revenue growth, margins, risk or any other fundamentals played much of a role in the pricing. I don't fault them for playing the momentum game, but they played it badly.

By pushing up the offering price to its upper limit and by expanding the offering to allow more insiders to cash out, they broke the spell that momentum casts over investors. It would have happened eventually, but they did not anticipate how quickly the shift would occur.

What are the lessons to take from this mess?

First, don't assume that bankers, experts and analysts know what they are talking about. When they tout an investment, be especially skeptical if they have a stake in it.

Reactions: Facebook IPO underwhelms Web, too

Second, much as it soothes the ego to think that your portfolio setbacks are because of a conspiracy, where large institutional clients make a killing and the individual investors get the crumbs from the table, it is institutional clients who lose the most in bad deals because they have more to lose.

Finally, remember that markets make mistakes, and they can make bigger ones after a meltdown like this one. I would not be surprised if disappointed investors drive the price down to a point where you and I can have the ultimate revenge on Mark Zuckerberg: Buy his company at a bargain basement price and make money off him.

Follow us on Twitter @CNNOpinion

Join us on Facebook/CNNOpinion

The opinions expressed in this commentary are solely those of Aswath Damodaran.

ADVERTISEMENT
Part of complete coverage on
August 27, 2014 -- Updated 1626 GMT (0026 HKT)
The death of Douglas McAuthur McCain, the first American killed fighting for ISIS, highlights the pull of Syria's war for Western jihadists, writes Peter Bergen.
August 26, 2014 -- Updated 2242 GMT (0642 HKT)
Former ambassador to Syria Robert Ford says the West should be helping moderates in the Syrian armed opposition end the al-Assad regime and form a government to focus on driving ISIS out
August 27, 2014 -- Updated 1321 GMT (2121 HKT)
Ruben Navarrette says a great country does not deport thousands of vulnerable, unaccompanied minors who fled in fear for their lives
August 27, 2014 -- Updated 1319 GMT (2119 HKT)
Robert McIntyre says Congress is the culprit for letting Burger King pay lower taxes after merging with Tim Hortons.
August 26, 2014 -- Updated 2335 GMT (0735 HKT)
Wesley Clark says the U.S. can offer support to its Islamic friends in the region most threatened by ISIS, but it can't fight their war
August 27, 2014 -- Updated 1126 GMT (1926 HKT)
Jeff Yang says the tech sector's diversity numbers are embarrassing and the big players need to do more.
August 26, 2014 -- Updated 2053 GMT (0453 HKT)
America's painful struggle with racism has often brought great satisfaction to the country's rivals, critics, and foes. The killing of Michael Brown and its tumultuous aftermath has been a bonanza.
August 26, 2014 -- Updated 2019 GMT (0419 HKT)
Ed Bark says in this Emmy year, broadcasters CBS, ABC and PBS can all say they matched or exceeded HBO. These days that's no small feat
August 26, 2014 -- Updated 1919 GMT (0319 HKT)
Rick Martin says the death of Robin Williams brought back memories of his own battle facing down depression as a young man
August 26, 2014 -- Updated 1558 GMT (2358 HKT)
David Perry asks: What's the best way for police officers to handle people with psychiatric disabilities?
August 25, 2014 -- Updated 1950 GMT (0350 HKT)
Julian Zelizer says it's not crazy to think Mitt Romney would be able to end up at the top of the GOP ticket in 2016
August 25, 2014 -- Updated 2052 GMT (0452 HKT)
Roxanne Jones and her girlfriends would cheer from the sidelines for the boys playing Little League. But they really wanted to play. Now Mo'ne Davis shows the world that girls really can throw.
August 25, 2014 -- Updated 1629 GMT (0029 HKT)
Peter Bergen and Emily Schneider say a YouTube video apparently posted by ISIS seems to show that the group has a surveillance drone, highlighting a new reality: Terrorist groups have technology once only used by states
August 25, 2014 -- Updated 2104 GMT (0504 HKT)
Kimberly Norwood is a black mom who lives in an affluent neighborhood not far from Ferguson, but she has the same fears for her children as people in that troubled town do
August 22, 2014 -- Updated 2145 GMT (0545 HKT)
It apparently has worked for France, say Peter Bergen and Emily Schneider, but carries uncomfortable risks. When it comes to kidnappings, nations face grim options.
August 26, 2014 -- Updated 1727 GMT (0127 HKT)
John Bare says the Ice Bucket Challenge signals a new kind of activism and peer-to-peer fund-raising.
August 22, 2014 -- Updated 1231 GMT (2031 HKT)
James Dawes says calling ISIS evil over and over again could very well make it harder to stop them.
August 24, 2014 -- Updated 0105 GMT (0905 HKT)
As the inquiry into the shooting of Michael Brown continues, critics question the prosecutor's impartiality.
August 22, 2014 -- Updated 2247 GMT (0647 HKT)
Newt Gingrich says it's troubling that a vicious group like ISIS can recruit so many young men from Britain.
August 21, 2014 -- Updated 1450 GMT (2250 HKT)
David Weinberger says Twitter and other social networks have been vested with a responsibility, and a trust, they did not ask for.
August 22, 2014 -- Updated 1103 GMT (1903 HKT)
John Inazu says the slogan "We are Ferguson" is meant to express empathy and solidarity. It's not true: Not all of us live in those circumstances. But we all made them.
August 22, 2014 -- Updated 1223 GMT (2023 HKT)
Retired Lt. Gen. Mark Hertling says he learned that the territory ISIS wants to control is amazingly complex.
August 20, 2014 -- Updated 1951 GMT (0351 HKT)
Cerue Garlo says Liberia is desperate for help amid a Ebola outbreak that has touched every aspect of life.
August 21, 2014 -- Updated 1742 GMT (0142 HKT)
Eric Liu says Republicans who want to restrict voting may win now, but the party will suffer in the long term.
August 21, 2014 -- Updated 1538 GMT (2338 HKT)
Jay Parini: Jesus, Pope and now researchers agree: Wealth decreases our ability to sympathize with the poor.
August 21, 2014 -- Updated 1200 GMT (2000 HKT)
Judy Melinek offers a medical examiner's perspective on what happens when police kill people like Michael Brown.
August 19, 2014 -- Updated 2203 GMT (0603 HKT)
It used to be billy clubs, fire hoses and snarling German shepherds. Now it's armored personnel carriers and flash-bang grenades, writes Kara Dansky.
August 20, 2014 -- Updated 1727 GMT (0127 HKT)
Maria Haberfeld: People who are unfamiliar with police work can reasonably ask, why was an unarmed man shot so many times, and why was deadly force used at all?
ADVERTISEMENT