Facebook's Wall Street investment banks warned top clients ofnew doubts about the social network's financial prospectsjust days before the company's IPO, according to a series of reports that emerged Tuesday. After receiving briefings from Facebookexecutives, analysts at the banks lowered their financial forecasts for big institutional clients, some ofwhom scaled back plans to buy Facebook stock, even as the banksraised the IPO price and number of shares amid a frenzy of hype. Although Facebook had publicly disclosed mobile advertisingchallenges, the new revelations raised questions about whetherFacebook's underwriters selectively disclosed informationthat gave favored clients an unfair advantage over other investors.The revelations, which came as Facebook shares plunged nearly 9%Tuesday, drew immediate scrutiny from federal regulators as well asa subpoena from Massachusetts officials. Meanwhile, the Nasdaqstock exchange faced a growing chorus of anger — and a classaction lawsuit — over its botched handling of the IPO, whichhas already become the worst-performing three-day start for an offering over $1 billion in the last fiveyears. Facebook's highly-vaunted IPO — which was supposed tobe a shining moment for the social network, as well as its leadbanker Morgan Stanley and the Nasdaq exchange — has morphedinto a debacle that's reinforced some of the worststereotypes about Wall Street: that corporate executives and theirbankers engineer IPOs to maximize profits at the public'sexpense; that Wall Street's own systems have become toocomplex for its personnel to handle; and that the entire game is ahype-fueled casino, rigged for the house with a sucker played bythe average investor. |
( More : Facebook IPO Fallout: Four Lessons from a Rocky Public Debut ) "The FB IPO selective disclosure stories just keep gettingworse," Sallie Krawcheck, former head of wealth managementat Bank of America, wrote in a Twitter message . "If true, an absolute outrage. Come on, Wall St!!" Just what did Facebook executives tell the stock analysts at theinvestment banks in the days before the offering? On May 9,Facebook issued an updated prospectus with the Securities and Exchange Commission.In dense securities-legalese, Facebook said that the number ofdaily users was increasing faster than the number of ads thecompany was serving, a change it attributed to its fast-growingmobile user base. Such an updated "risk factor" mayhave served to satisfy regulatory requirements prior to the IPO.
But Facebook executives apparently went further, according to The New York Times , personally calling stock analysts at the company's top IPOunderwriters to update them on the company's businesschallenges. "Facebook changed the numbers–theydidn't forecast their business right and they changed theirnumbers and told analysts," a person at one ofFacebook's banks told Reuters . "The analyst's underwriters then all changed theirnumbers based on what management was telling them." As a result, analysts at four of Facebook's top underwriters,Morgan Stanley, Goldman Sachs, JPMorgan Chase and Bank of America, lowered their financial forecasts for Facebook just days before the IPO, according to Reuters . The banks then relayed the lowered financial forecasts to certainlarge clients, one of whom was warned that second-quarter revenuecould be "5 percent lower" than earlier estimates,according to The Times.
( More : Facebook IPO: After the Hype, Investors Are Betting on Hope ) None of this may be illegal, but here's the crucial point:While the investing public should have taken heed ofFacebook's (very opaque) prospectus update, the overallmarket was not the beneficiary of personal calls from companyexecutives or revised financial projections apparently based onmore detailed information than was available to the general public.Indeed, that information seems to have been quickly funneled tofavored clients. Meanwhile, the investment bankers, led by MorganStanley, raised the IPO offering price in the face of supposedlywhite-hot investor demand that, days later, proved to have beensignificantly overstated. Facebook shares have plunged 20% sincethe IPO, wiping out $17 billion from the company's valuation. The new allegations prompted concern from federal and stateofficials on Tuesday, as well as a defense of its actions by MorganStanley: William Galvin, Massachusetts secretary of state, issued a subpoena to Morgan Stanley seeking information about discussionsthe bank's analysts may have had with favored investors aboutFacebook s revenue prospects. Financial Industry Regulatory Authority chairman Richard Ketchum told Reuters : "That's a matter of regulatory concern to us andI'm sure to the SEC." Securities and Exchange Commission Chairman Mary Schapiro told reporters: "I think there is a lot of reason to haveconfidence in our markets and in the integrity of how they operate,but there are issues that we need to look at specifically withrespect to Facebook." In a statement cited by Reuters , Morgan Stanley said the procedures it followed for the FacebookIPO "are in compliance with all applicableregulations." ( More: Even Pre-IPO, Facebook's Executives Were Richly Rewarded ) Meanwhile, Nasdaq, still reeling Tuesday over its botched handlingof the IPO, was hit with a lawsuit seeking class-action status for those who lost money in theoffering.
Trading was delayed for 30 minutes on Friday, and trades for millions of shares werenever confirmed, leading one trading executive to brand the debacle arguably the worst performance by an exchange on an IPO ever. Nasdaq CEO Robert Greifeld blamed poor design in theexchange s trading software ironic given the exchange sreputation as the preferred home of tech companies. On Tuesday,another Nasdaq official claimed the exchange would have halted the offering altogether had itfully understood the extent of its technical problems. But hourslater, still another exchange official seemed to contradict thatstatement, telling Reuters that it would have gone forward with the "rightsolution" to the trading snafu. Taken together, the latest developments in Facebook's IPOhave dealt a serious blow to what should have been a triumphantpublic debut for the social networking giant, as well as a momentof glory for Morgan Stanley and Nasdaq.
Instead, the botched IPOhas turned into a debacle for just about everyone — exceptFacebook's early investors and insiders, who sold $9 billionworth of shares that they had acquired at lower prices."It's dreadful for the markets," former SECChairman Arthur Levitt told Reuters of the IPO and its handling by Wall Street banks and Nasdaq."It's an event with long-lasting negative implicationsfor an industry that can ill afford this kind of blemish, and thelast chapter hasn't been written. Nobody looks goodhere.".
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