Attention Startups: Facebook Took It In The Teeth On Wall Street, So Cover your Asse(t)s!

Hopes were high on Wall Street and beyond before May 18, when Facebook’s stock became available for public trading. Unfortunately, Facebook’s performance in the stock market was disappointing. Although the company set a new record for trading volume of an IPO with 460 million shares, trading glitches led to botched orders, and this stunted the growth of Facebook’s stock value – by the close of the trading day, Facebook’s IPO had done little more than break even.

In the middle of the IPO roadshow, Facebook’s lead underwriters for this venture, J.P. Morgan, Morgan Stanley and Goldman Sachs, all cut their earnings forecasts for the company. Shortly thereafter, Facebook’s stock value dropped by about twenty per cent within three days of the offering, and by more than twenty-five per cent at the end of May, prompting the Wall Street Journal to call it a fiasco. As of June 11, the value of Facebook shares plummeted to just more than half of the price of a share when the IPO was launched.

Many other people are perturbed. Many investors have become become wary, considering that billions of dollars have been lost between the company and the traders of its stock. Paul Graham, founder of prominent Silicon Valley startup incubator Y Combinator, expressed his concerns in a message to a number of portfolio companies: “The bad performance of the Facebook IPO will hurt the funding market for earlier stage startups… No one knows yet how much. Possibly only a little. Possibly a lot, if it becomes a vicious circle.”

However, it would be unfair to call Mr. Graham a prophet of doom. Despite his anxiety over the ripple effects of the Facebook IPO disaster, he also advises young entrepreneurs that have not yet raised money to lower their expectations for how much they will be able to raise. Indeed, this is sound advice, as digital media need not be expensive to use. In addition, Graham advises fledgling startups to use their funds wisely, as this is the only way for a company to weather a dry spell in the market.

“The best solution is not to need money. The less you need investor money, (a) the more investors like you, in all markets, and (b) the less you’re harmed by bad markets… The startups that really get hosed are going to be the ones that have easy money built into the structure of their company: the ones that raise a lot on easy terms, and are then led thereby to spend a lot, and to pay little attention to profitability. That kind of startup gets destroyed when markets tighten up. So don’t be that startup. If you’ve raised a lot, don’t spend it; not merely for the obvious reason that you’ll run out faster, but because it will turn you into the wrong sort of company to thrive in bad times.”

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