June 3, 2012 -- Facebook fb already unleashed millions of shares to wary investors. Now the technology giant's early investors are about to see if they can force-feed millions more.
Starting in just a few months, select insiders and early investors in Facebook will be free to sell their shares as the so-called lock-up period expires.
Some fear the flood of stock available for trading could further inundate investors and water down Facebook's share price, already 26% below the $38 initial public offering price. Facebook fell 65 cents Wednesday to $28.19.
"This is a big issue hanging over the price of the stock," says Stephen Diamond, professor of law at Santa Clara University. Facebook's "stock price still has a way to go on the downside as the market takes account of increased supply."
When an IPO lock-up period expires, more shares are available for trading, placing a greater supply of stock in the stock market.
Investors are nervously watching the expiration of Facebook's lock-up period because:
•Lock-up expirations are significant events. IPOs suffer 2% declines, on average, in the wake of a lock-up expiration, says Jay Ritter, professor of finance at the University of Florida. In addition to the greater supply of stock, investors don't like seeing executives and early investors selling, he says.
•The coming supply of shares potentially sold is large. Facebook's IPO unlocks an escalating number of shares for trading over time. The first lock-up expiration hits in less than three months, when 268 million shares are available for sale, or a tenth of shares outstanding. In less than six months, though, 1.7 billion shares will be unlocked.
•Odds are that more shares could be issued to pay for acquisitions. Just prior to the IPO, Facebook announced it would be buying social photo-sharing service Instagram for $1 billion. To help pay for the acquisition, Facebook plans to issue nearly 23 million additional shares, according to the company's filing. And investors are already braced for Facebook to freely issue even more shares to fund additional acquisitions, further diluting their stakes, says Josef Schuster of IPO tracker IPOX Schuster.
Large institutions generally factor in lock-ups in the price they're willing to pay for a stock, Diamond says. But given that a larger than usual percentage of Facebook shares are held by individuals, who might not have factored in the lock-up expiration, the stock price could face more headwinds, Diamond says.
One hope is that Facebook already boosted the number of shares sold in the IPO, reducing the future payload, Ritter says. The staggered lock-up expiration also slows the flood.
"Facebook stock will continue to be volatile, but before long, there will be a 50-50 chance it will be up or down on a given day," Ritter says.