Will Facebook “Friend” the Stock Market?

Facebook chief executive, 24-year-old Mark Zuckerberg recently fired his chief financial officer, Gideon Yu, saying in a statement he wanted someone with more experience running a public company.

This comes after the company said it would be interested in launching an initial public offering, or IPO, in the next few years. This would make Facebook part of the stock market.

What is an IPO?

	Companies that want to be traded on Wall Street can launch an IPO, giving public investors the opportunity to own a piece of the business.

Despite Facebook's wide popularity – it boasts nearly 200 million users across the globe – the company is still privately held. Private companies are funded by private investors, so raising money, or capital, can be a cumbersome and costly process that limits growth potential. Alternatively, Facebook could launch an IPO.

An IPO allows public investors a chance to own a piece, or share, of a business. Investors share the profits when the company does well, but they also share the losses when the company struggles.

Investors buy stocks because they believe the share they own today will be worth more in the future. In turn, the company gets money it needs to pay bills and help it grow. But starting to sell stock is a give and take process, and launching an IPO involves a few important steps.

More scrutiny

	In order to go public, Facebook would have to make all of its financial records available to the independent government agency, the SEC.

First, the company must compile its financial records, including payments to executives, money it owes, quarterly and yearly profits, and so on. It must disclose this information to the Securities and Exchange Commission, or SEC, for review.

The SEC is the chief regulator of stock markets in the U.S., and it has the ultimate power to decide whether Facebook can sell stock. When a company is private, like Facebook is today, it’s difficult to know how much money it’s earning or how well it’s performing during the economic recession. That would change with an IPO.

Second, the company must decide how much money it wants to raise and find investors willing to purchase its shares. It accomplishes that by using an underwriter, usually an investment bank.

The underwriter guides the company through the IPO and agrees to buy the shares from the company. It then sells those shares, or stock, to the investors. This transfers the risk from the company to the underwriter and guarantees a minimum price for the company. For this service, the underwriter collects a fee. The investors, in turn, can sell these shares on an open market or stock exchange.

Benefits and drawbacks

	CEO Mark Zuckerberg, 24, who founded Facebook at Harvard in 2004, would lose some control of his company if Facebook went public.

The benefits of going public are many, including greater access to capital needed for growth, the use of stock options to attract and retain talented employees, the ease with which stock can be converted into cash and higher visibility and prestige in the business world.

But there are drawbacks. While it generates money, an IPO can be costly in terms of fees. Additionally, investors begin to share profits and the company gets far less confidentiality when it is required to disclose certain documents on a regular basis. The company will also be under greater pressure to focus on short-term earnings goals, many times to the detriment of long-term goals. Finally, management loses some control of the company to shareholders and corporate governance.

In Facebook’s case, the soaring demand for its services, including photo and video uploading, has meant expensive technological upgrades but not profitability, at least not by standard accounting practices.

How will Facebook make a profit?

	Facebook wants to make money from advertising programs like Google's, which receives 99 percent of its revenue from ads.

Facebook is attempting to make money through targeted ads, not unlike YouTube and Google. However, Facebook has yet to find the formula that allows it to cash in on its popularity.

It’s unclear why Facebook would go public at a time with so much market uncertainty and anxiety. Many investors are wary of investing in stocks, much less unproven ones, and it is difficult to get credit to finance an IPO in the current economy.

Part of the speculation surrounding a potential Facebook IPO is that the company may be seeking to go public as a result of a deal made with Microsoft in 2007. Some analysts think Microsoft may have attached provisions to the $240 million it invested in Facebook that included launching an IPO in the near future.