LinkedIn’s (NYSE:LNKD) meteoric initial public offering today should serve as a reminder that every financial bubble has one thing in common: the justification.
Continue Reading Below
Just over a decade ago, investors told themselves that every unproven, money losing Internet startup had the potential to change the world. Pets.com, TheGlobe.com and Webvan were among the many failures that proved otherwise.
Five years ago, the value of your home was never going to fall, so it was wise to borrow against it – again and again and again – because you would never have to pay that money back. It was also ok to buy a home you clearly couldn’t afford because … well, it just was.
No doubt many investors believe LinkedIn’s real revenues and profits, among other factors, justified paying more than double the initial public offering price on Thursday. The stock, which priced at $45 late Wednesday, rose as high as $120. With 94.5 million shares outstanding, at that stock price the company had a market capitalization of more than $11 billion.
That's impressive, as is this number: 650. That's the approximate multiple to the company's 2010 earnings, a measly $15 million. Its market cap is now suddenly on par with that of Mattel (NYSE:MAT) and Clorox (NYSE:CLX), among others.
It’s the largest U.S. Internet IPO since Google’s (NASDAQ:GOOG) shares debuted in 2004. But it will likely pale in comparison to Facebook’s eventual deal.
Larry Tabb, CEO of financial markets research company the Tabb Group, sees the big picture and welcomed Thursday’s LinkedIn frenzy.
“I think it’s good,” he said. “One of the challenges of the past few years is that we haven’t seen enough companies go public. The capital raising mechanism in this country has been broken for several years.”
Tabb said the moribund IPO market has pushed companies toward private equity and seeking growth through acquisitions rather than raising money through public stock deals.
The LinkedIn IPO and its attendant media attention could serve as a much-needed catalyst for changing that environment.
A healthy IPO market means easier access to capital, Tabb explained. More capital means more growth. And more growth means more jobs. All of which contributes to the ongoing economic recovery.
LinkedIn was founded in 2003 and has rapidly emerged as the world’s largest networking site for professionals. It’s often described as a Facebook for career-minded types.
The Mountain View, Calif.,-based company said in a recent regulatory filing that its 2011 first quarter revenues had risen 110% to $93.9 million from $44.7 million a year earlier largely due to its fastest growing and most popular and profitable features – an area on the site where employers can recruit potential workers.
The site is popular among technology sector types, both executives and lower-level employees. That sector is rebounding as the economy gradually improves and LinkedIn has found itself in the right place at the right time.
In the same regulatory filing LinkedIn said it added it added more than a million new members every 10 days during the second half of 2010.
“A lot of people are buying it on the name,” said Matt Therian, a research analyst with Renaissance Capital in Greenwich, Conn. “But when you dig in on the fundamentals you see a solid story taking shape here. It’s growth has been accelerating over a series of quarters.”
Therian noted as well that “there’s been a lot of pent up demand” for the next generation of potential Internet successes, as evidenced by a strong market for their shares in private secondary markets.
What’s more, LinkedIn’s offering was fairly small at 7.84 million shares, or less than 10% of the company. And demand was only strengthened when the underwriters raised the price 30% earlier this week.
Still, Therian cautioned: “There are risks to the LinkedIn story.”
Especially to investors who aren’t viewing the big picture but rather trying to capture lightning in a bottle. Namely, investors who are buying the stock now that it’s hit the public markets.
A common occurrence in the late 1990s during the first dotcom bubble was the ‘can’t miss’ IPO that priced at, say $20 a share, and immediately rose to $80 a share or more. The investors who got into that stock at $20 – usually company and investment bank insiders – made out like bandits, reaping huge profits by selling into the euphoria as the stock soared on its opening day.
But individual investors – classic Mom and Pop types – desperate to get in on the next big dotcom IPO frequently placed open-ended buy orders with their brokers and then wound up unknowingly purchasing shares at wildly inflated prices. Those same investors then got creamed when those stocks took sharp U-turns and tumbled rapidly from their initial highs.
It happened all the time circa 1998 and many of these unsophisticated investors lost tens of thousands of dollars, much of it drawn from their retirement accounts.
Perhaps LinkedIn, Facebook and Groupon are this generation's Amazon.com (NASDAQ:AMZN), Ebay (NASDAQ:EBAY) and Priceline.com (NASDAQ:PCLN), stocks that soared and companies that maintained their lofty places in the business world.
But all signs currently point toward another dotcom bubble. Consequently all common-sense rules of investing will likely be thrown out the window.
Steve Blank, a Stanford University professor with expertise in Silicon Valley financing, has published what he calls the ‘New Rules for the New Internet Bubble.’ In it he warns that there will be winners and losers as history repeats itself, and probably more of the latter than the former.
So buyer beware.