When Facebook Hits the Market

There are a few companies out there which I don't expect to be owning or holding as an individual investor anytime soon, simply by virtue of their share prices. Berkshire Hathaway is one, Google is another and it looks like Facebook is shaping up to be a third.

It has nothing to do with the quality of the companies backing these share prices. When I get older, wiser, more established or whatever, I may very well save up my pennies to buy my own small piece of Warren Buffett's empire and today Google shares continue to hold its own, despite a lot of slack-jawed chin wagging about the company's valuation and the high price it commanded when it first went public back in 2006. This year, it's Facebook's turn. Maybe.

There's a lot of talk out there about whether or not Mark Zuckerberg will let the company go public or not and what the IPO could mean for Silicon Valley (yawn); and there's been a lot more written about Goldman Sachs' poor rich private clients in the U.S. who were snubbed in the latest round of backroom dealings for a piece of the company. What I really want to know, though, is what happens to the rest of us when this puppy finally does hit the markets.


When Facebook hits the fan

In my mind there was something funny raising a big old red flag for me about the botched Goldman offering to its private clients. I feel silly admitting this now, but I honestly couldn't put my finger on it at the time. Only after coming across something written by one of those smarter, analyst-types did it all fall into place for me. (And when it did? Honestly, it felt like I'd been hit on the nose with a rolled up newspaper.)

Silly girl: "Special purpose vehicle?" Assets that are bought, repackaged, sold and then resold? Sounds a lot like the so-called asset backed securities we were all writing about a few years back. Remember the mortgage crisis?

I'm not saying this one product is going to blow up Wall Street. What kind of rubs me the wrong way about the Facebook deal though, is summed up nicely by Alex Daley, chief editor of Casey's Extraordinary Technology.

In his article, The $50 Billion Myth (hint?), he points out that it is virtually impossible to come up with a valuation for a company based on the information that's available.

"Goldman's own investment says very little about the valuation of Facebook," he writes. "Few announcements have generated more buzz than the widely reported investment by Goldman Sachs in the hot, privately held social media goliath Facebook, at a staggering $5o billion dollar valuation.

The problem: It's just not true."

In his article, Daley goes on to talk about why Goldman Sachs is investing the amount it is – not necessarily because it thinks Facebook's worth that much, but because it stands to make money on the deal – a lot of money.

Here are some of the details out there:

Goldman is investing $500 million to acquire a one per cent piece of Facebook, which is where a lot of news sources are getting the $50-billion valuation number from. In turn, the investment firm has the right to offer another $1.5 billion to its private clients.

What isn't being discussed by most, though, is that Goldman also gets placement fees and a significant percentage of any profits generated by the deal. By Daley's calculations, the company stands to make $60 million in fees on this first offering alone. Buying their way in, though, will reap the company even greater rewards: "If Facebook can really attract a $50 billion valuation at market and lets loose just 20 percent of its equity for a $10 billion offering, that would mean $600 million in fees to Goldman." Investment paid for. (Plus, they still own shares, if they haven't quietly sold them off already.)

Martin Hutchinson, a former global merchant banker and writer for a number of financial newsletters and the Asia Times, is also weighing in on the deal, saying the $50 billion valuation "was justifiable only by assuming massive future revenue growth, which is highly unlikely."

Hutchinson's a pretty bearish fellow. If you like scaring yourself silly with thoughts about Wall Street's efforts to blow up Main Street while all of your personal data being sold off to Russia, it's a good read. He makes a pretty good case for believing Wall Street's on the take though, with very little regard for what it might mean to the rest of us:

"According to Thomson Reuters statistics, global investment banking fee income totaled $84 billion in 2010, up nine per cent on 2009, and below only the peak years of 2006 and 2007 ... 2002 fee income totaled only $49 billion.

There are very few businesses that have seen revenue nearly double in the past eight years. Wall street's performance is even more stunning given that most of the players in the investment banking business experienced the financial equivalent of a near death experience in 2008," he writes. "The Facebook deal is only one example of a Wall Street deal flow that is coming close to matching the boom levels of 2007 and has the potential to do as much damage."

Sigh.


Are you a little behind the times on this one? Check out The Facebook Deal: Quick Facts, Speculation and the Oft-Repeated Details to bring yourself up to speed.


Kate McCaffery is a freelance writer in Toronto, Ontario. Visit mccaffery.ca/kate2.0/ for more information.