Category: Blog

Learning Objectives – Facebook IPO:

• Stock prices reflect expectations about the future
• What a company says they’re going to do or not do can impact what people expect
• Quarterly earnings reports allow a company to disclose its activities and its financial situation

Introduction

This past month, Facebook released their first ever earnings report as a publicly traded company.  The incredible hype and energy around this company’s IPO has now given way to the more sobering work of scrutinizing the company’s operations and ability to make money. If you’ve been following the first two parts of our IP-Uh-Oh series, you’ll recall that part 1 talked about investments being driven by beliefs and part 2 focused on why companies ‘go public’.  In this last part, we look at the point in time when all the ‘guesses’ get put to the test and a company has to report its earnings to its shareholders.

In its short life as a public company, Facebook’s timeline might resemble that erratic but popular friend we all know on Facebook. It would start with pictures of a seemingly epic party that they managed to get invited to and would somehow give way to status updates about lawsuits suggesting that something at the party has gone horribly wrong. Of course, being the internet, there are countless ways in which the unflattering pictures of the post party hangover have been passed around.  Ironically, the company that was built on “shares, is now more responsible for tending to shares of a different variety. Unfortunately for those holding shares, the market seems to have responded less enthusiastically than many had hoped (as of the writing of this article they’re down over 43% year to date).

Given that stock prices are perpetually forward-looking, however, what a company says (or doesn’t say) about its future opportunities is what investors look to for help in deciding whether to stay the course or to get off the boat.

Facebook Going Public – Learning Objective:

• To learn what an IPO is and why a company goes ‘public’

There seemed a time in the business news not too long ago where all you would hear about was the debut of Facebook in the stock market.  Now that Facebook has officially started trading and media outlets have squeezed as much as they can out of its initial stumble, it appears that the world has predictably moved on.  For those beginner investors who were drawn in to the hype of Facebook going public, trying to put the events of Facebook’s debut as a publicly traded company into some kind of context is difficult, especially if the headlines on it have started to disappear. In this second part of our series, we take a closer look at what an IPO means and why they happen.  If you missed the first part of the series, you can click here to read it.

Will that be cash or credit?

To understand how stock markets function, one of the most important questions to ask is how companies end up there. After all, isn’t shopping much easier when you realize why you’re in the mall in the first place?

From startups to blue chips, the one rule of business is true – it takes money to make money, and if you’ve got big dreams as a business you’ve certainly got to be able pay for what will help get you there.  Even though some of the regulations have changed, the principle of raising money to grow is as true today as it has ever been – check out this neat little cartoon from the 1950’s for a fun explanation.

The decision that all businesses have to make is how they are going to pay for what they need in order to do what they do.   Of course since money doesn’t just appear out of thin air (unless you’re a central banker – which is another story altogether) it needs to come from somewhere or someone. The two main ways of raising money (that it doesn’t already have)  for a business are to take out a loan (debt) or sell a portion (equity) of your company.

An IPO or initial public offering, similar to the one that Facebook undertook, is an opportunity to raise money to help pay for all of those things that are going to make a company even more money in the future (or at least that’s how the story is supposed to go).  If you are a business owner, you want to raise as much money as possible for your business and “going public” enables businesses to sell shares of their company to the general public, as opposed to selling to only a limited number of investors. Business owners raise money from investors – people who want their investment capital to appreciate in value.

Learning Objective:

To understand that investments are driven by beliefs.

Introduction

Over the past month, one of the most dominating news stories in financial markets has been the debut of Facebook as a publicly traded stock.  There are so many great investor lessons about the world of investing and finance that this historic event can provide and so we at SparxTrading.com have decided to participate in the Facebook IPO conversation as a chance to impart  the many important lessons to those currently investing and to those who are thinking about it. We will start this series by taking a look at what the Facebook IPO can teach us about our investing biases and tendencies and then explore how this IPO can give us a window into how investing works.

Imagine all the people…

Facebook is a reflection of the current world we live in; it is so much a part of many people’s daily experience that starting to imagine a world without Facebook is becoming difficult. Indeed, with each passing day, I’m slowly forgetting the “old layout” and embracing their timeline.  Facebook is becoming increasingly part of the ‘norm’ for many people across the planet and for some it will be all that they’ve ever known.  That said, all this connectivity with others is new territory for human kind. It is at this kind of exciting frontier that the idea of Facebook – a medium for connecting with so many people – is alluring.   This “thing” called Facebook has captured the world’s imagination.

In the human mind, time can be suspended, rewound or fast forwarded and gravity can be just a footnote. In the “real world” however, time marches on and gravity pulls things down. Imagination is intoxicating and reality is sobering.  There is no doubt that “Facebook  the idea” was born from imagination however “Facebook the business” is in the real world, and being in the real world it is subject to all the natural forces that things in the real world are – profit margins, operating expenses, regulations,  etcetera, etcetera. Businesses are built on ideas but in order to be successful businesses, they still need to make more money than they spend: that’s reality.

A business as an investment

Even though a business may have a great idea, whether or not that business is an attractive investment depends on whether investors believe that company will be profitable in the future.  With “new” companies, or companies such as Facebook where there is a great deal of “potential”, there are high expectations.  Those expectations of what something is worth in the future usually guide investor behaviour – investors (should) act in the best interest of making a profit at some point in the future. Whether or not those expectations can be met, however, will be borne out over time as will the faith the market has in a company’s ability to follow through on its promises.

Conclusion

Even though Facebook may have launched with a lot of enthusiasm, gravity is still ever present.  For share prices to rise “Facebook the business” will have to be an attractive investment and fulfill the promise that the world seems to see in “Facebook the idea.” Whether it is Facebook or any other company, before making an investment, it seems appropriate to ask which world you are investing in, imagination or reality?

To read Part 2 of the Facebook IP-uh-Oh series, click here.