Facebook’s Headaches Continue to Pile Up With Lawsuits, Allegations

After lackluster IPO, now speculation of shady conduct with investment banks

The hits just keep coming for Facebook. After weeks of speculation and media frenzy leading up to its historic IPO, it looks as though the controversy surrounding the social network won't end quickly.

Throughout the morning of the IPO (last Friday, May 18), the stock performed below expectations. Soon various media outlets began reporting that Facebook underwriters were actually the only thing keeping the stock afloat during its first day of trading. Over the weekend, a brief respite from the market, Zuckerberg married his longtime girlfriend, Priscilla Chan, which then aroused suspicion from outlets like The New York Times that Zuckerberg timed the nuptials to perhaps protect his newly minted fortune from California's communal property law.

On Tuesday night, Business Insider CEO Henry Blodget dropped what he called a "bombshell" exclusive alleging, via an anonymous source, that Facebook may have tipped off investment banks to its second-quarter earnings estimates before the IPO, causing some to pull back on the offering.

"The analysts cut their estimates because a Facebook executive who knew the business was weak told them to," said a Business Insider source. "Put differently, the company basically pre-announced that its second quarter would fall short of analysts' estimates. But it only told the underwriter analysts about this."

Shortly afterwards, Reuters finance blogger Felix Salmon gave his take on what he called "almost certainly not illegal" but in definite violation of the spirit of the law. "This does mean that shareholders should not expect much in the way of transparency or full honesty from a company which is controlled by Mark Zuckerberg personally," Salmon wrote. "Facebook was whispering in the ears of the lead managers of its investment banks, on the understanding that the results of those whispers would remain available only to select clients until after the IPO was over. That’s not cool."

AllThingsD's Peter Kafka made note that similar stories were reported over a week earlier by Bloomberg and Reuters, making Blodget's story all the more confusing.

"Combine Bloomberg's earlier report (bloomberg.com/news/2012-05-1) with Henry's piece (businessinsider.com/exclusive-here) and you get an interesting story," Kafka tweeted.

Blodget's story broke after the markets closed, but on Wednesday morning a series of class action lawsuits have been filed in District Court for the Southern District of New York on behalf of Facebook stock purchasers. Not an uncommon occurrence, but there is no doubt that it is bad press. Here's a quoted portion of the lawsuit:

"The true facts at the time of the IPO were that Facebook was then experiencing a severe and pronounced reduction in revenue growth due to an increase of users of its Facebook app or website through mobile devices rather than a traditional PC such that the Company told the Underwriter Defendants to materially lower their revenue forecasts for 2012. And, defendants failed to disclose that during the roadshow conducted in connection with the IPO, certain of the Underwriter Defendants reduced their second quarter and full year 2012 performance estimates for Facebook, which revisions were material information which was not shared with all Facebook investors, but rather, was selectively disclosed by defendants to certain preferred investors and omitted from the Registration Statement and/or Prospectus."

This morning, The Wall Street Journal featured a front-page look "Inside the Fumbled Facebook Offering," where it is reported that "less than three days before Facebook Inc.'s initial public offering, chief financial officer David Ebersman decided to boost the number of shares the company would offer investors by 25 percent." The piece goes on to note that Ebersman was working closely with Morgan Stanley banker Michael Grimes on the deal, leading to more speculation that there may have been improper conduct afoot.

As of midday Wednesday, Facebook's stock was actually trading slightly up at around $32 dollars a share, but there is no doubt that the entire IPO has been huge headache for Facebook and a certain distraction. As Reuters' Salmon notes, however, the stock is by no means doomed, but "the company definitely deserves the latest lurch downwards in its (still frothy) share price."


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