Many are considering investing in Facebook, but it’s not enough to just know and like the service. Initial public offerings (IPOs) are often best avoided until the stock settles down. And here are some other reasons to be cautious with Facebook:
There are 23 pages of risks detailed in the company’s prospectus, such as users potentially defecting to competitors’ products, users’ faith in the company decreasing and a growth rate expected to decline over time.
Fully 15 percent of its revenue is derived from Zynga apps and related advertising. If Zynga runs into trouble, so will Facebook.
More than 50 percent of Facebook’s voting power is held by just one person, CEO Mark Zuckerberg. The prospectus itself explains this conflict of interest:
“As a board member and officer, Mr. Zuckerberg owes a fiduciary duty to our stockholders and must act in good faith in a manner he reasonably believes to be in the best interests of our stockholders. As a stockholder, even a controlling stockholder, Mr. Zuckerberg is entitled to vote his shares … in his own interests, which may not always be in the interests of our stockholders generally.”
Then there’s the valuation. The company’s market cap was recently near $90 billion, similar to that of McDonald’s. Does that seem right? Consider the stock from all angles and decide for yourself.
Ask the Fool
Q: What’s an 8-K report? – C.U., Gainesville, Fla.
A: The Securities and Exchange Commission (SEC) requires companies to file 8-Ks whenever certain special events have occurred since they last filed their comprehensive annual 10-K report.
The kinds of happenings that necessitate 8-K reports are those that have a significant impact on a firm’s performance or financial health, such as mergers, layoffs, plant closings and court awards or penalties.
My dumbest investment
I remember, quite clearly, doing the math on electronic storage company EMC the first time I heard someone touting it. I was considered “quaint” at the time (during the dot-com boom) for concerning myself with P/E ratios, but I did the math and figured that the company would need to sell everyone on Earth a couple hundred megs (a lot of storage back then) before it could justify that price. So I passed on buying it.
A month later, the stock had doubled, everyone was talking about it, and it kept rising. I gave up and followed the herd: I bought in, when the stock was near $120 per share. We all know what happened next: dot-com bust. EMC promptly tanked. I rode it all the way down to $15 or so and finally sold out. The lesson? Stick to what you know. – J.E., California
The Fool responds: You learned that not only is it important to find great companies in which to invest, but they also need to be trading at attractive prices. Overvalued stocks have no margin of safety.