Twitter Won't Be a Facebook: Here's Why


NEW YORK (MainStreet) — After years of speculation surrounding the event, Twitter is finally set for its initial public offering. TWTR is expected to be priced Wednesday night and will begin trading on Thursday. Despite the hype and demand, Twitter has a giant shadow over its IPO, and that shadow is Facebook.

The Facebook IPO was a disaster, to put it lightly, and that disaster has led many to be cautious ahead of the much-hyped Twitter IPO. However, I believe that because Facebook was such a disaster, Twitter will have a much different fate.

IPOs are priced based on investor demand. If demand is high, banks can raise the price of the stock, thus increasing the fee they receive and increasing the money raised for the company going public. However, sometimes banks will intentionally price IPOs lower than demand, so when the stock begins to trade, it will see large gains. What this does is excite investors and increase demand for the next IPO in the hopes that it will "pop" and they can flip their shares for a nice profit.

The amount a stock "pops" on its IPO is largely decided by the banks that are underwriting this deal. Goldman Sachs is the lead underwriter for Twitter; Morgan Stanley was the lead underwriter for Facebook. What better way for Goldman Sachs to attract future clients over Morgan Stanley than to show that it can successfully orchestrate a large, much-hyped IPO? The opportunity for Goldman Sachs is too great. Even more important than allowing Goldman Sachs to uphold its reputation, a successful Twitter debut is vital for the success of future IPOs.

Should the Twitter IPO go sour, then all future big deals will be looked upon with increased skepticism, limiting both the fee the bank collects, as well as the money the newly listed company raises. The banks play a game with IPOs. After Facebook flopped, the next several companies to go public soared tremendously on their debut. This was not by chance; this was to attract investors back into the IPO market. Notice the IPOs leading up to Twitter? Potbelly, a sandwich restaurant, and The Container Store, a storage retailer, both doubled on their debut. These companies were priced below what people were willing to pay for them which led to a large "pop" in the price. This was likely done to excite investors ahead of the much larger Twitter IPO. If a sandwich shop and a shelves and box store can double, then what will happen to a company that has conquered mobile, social and the cloud? It is clear to see how this strategy works. The banks have been building up demand for Twitter's IPO, and so long as they don't absurdly raise the price on Wednesday, then we should not see a repeat of Facebook.

Moral of the story: Twitter will not be a disaster, but it's unlikely to be a miracle either. The chances that retail investors will get in on this deal are nil. In fact, if retail investors are able to get a slice of Twitter before it comes public, that is simply a sign that demand isn't there from the banks' largest clients. Twitter should be avoided by all retail investors when it starts trading. Purchasing an IPO after it starts trading has been a losing bet too many times in the past. There will likely be a better price in the future after the hype dissipates. And if there isn't that opportunity? Well, as Warren Buffett says, "You don't have to swing at everything..."

--Written by Alex Pottmeyer for MainStreet

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