3 Facebook investors sue on handling of IPO

NEW YORK -- Now it's lawyers doing the fingerpointing in the Facebook blame game.

Three Facebook investors filed a lawsuit Wednesday alleging that the company and underwriters leading the hyped initial public offering did not let all investors know that analysts at the underwriting banks had lowered their quarterly and full-year revenue forecasts for Facebook ahead of Friday's first day of trading.

Instead, the lawsuit describes an investment playing field that was anything but level for retail investors, claiming that the underwriters misled thousands of investors when they "selectively disclosed" the "material information" only to "a handful of preferred customers."

The class-action lawsuit, filed in a New York federal court by law firm Robbins Geller Rudman & Dowd, names Facebook, CEO Mark Zuckerberg and the deal's leading underwriters as defendants. The legal trouble is the latest development in the social-networking giant's deeply flawed and highly controversial IPO that has again raised questions about the integrity of financial markets.

The IPO has been marred from the get-go. On Friday, a massive computer glitch at the Nasdaq stock exchange caused confusion and uncertainty on the first day the stock began trading. The offering has also been panned by critics who contend that too many shares were offered at too high a price, causing a supply-demand imbalance that led to the stock falling as much as 18% from its $38 offering price.

Now come allegations that the IPO's lead underwriters, including Morgan Stanley, JPMorgan Chase, Goldman Sachs, Merrill Lynch and Barclays Capital, did not properly disclose to all investors risks associated with investing in Facebook. The lawsuit claims the final registration statement and prospectus misled investors, causing them to lose more than $2.5 billion since Friday's IPO.

Facebook stock on Wednesday rose $1, or 3.2% to $32, but is still 15.8% below its $38 offering price and nearly 29% off its all-time high of $45, hit on its first day of trading.

In response to the lawsuit, Facebook said: "We believe the lawsuit is without merit and will defend ourselves vigorously."

Morgan Stanley, the lead underwriter in the Facebook deal, had no comment on the lawsuit. But on Tuesday, the firm issued a statement that said it "followed the same procedures for the Facebook offering that follows for all IPOs" and that they were in "compliance with all applicable regulations."

Chris Keller, a securities lawyer and partner at Labaton Sucharow, says the case against Facebook and its underwriting team is likely to cause serious legal problems.

"It's a big case and a fairly strong case," says Keller. "Clearly, underwriters here crossed the line. They had a clear obligation not to disclose the information (selectively). They should have put out a written statement, and they didn't do that. They knew the information in the (final filing documents) was not good enough and knew it was false. The facts being reported are clear-cut and make for a strong and compelling case. These companies will be in hot water for awhile."

The lawsuit comes after media reports earlier this week stating that analysts at the banks underwriting the IPO gave a heads-up to top clients that they were lowering their revenue targets for Facebook in the current quarter and full year after Facebook noted in a pre-IPO filing that its ability to generate advertising revenue from its growing digital user base was challenged due to a dearth of ads in the digital space.

Wednesday's complaint alleges that the defendants made "false and misleading representations and omissions" — including the key piece of information that analysts were reducing their revenue estimates due to weakness in digital advertising — causing investors to lose money on their investments.

The lawsuit also contends that despite Facebook's regulatory filing about its difficulty making money on digital ads, the company was actually experiencing "severe and pronounced reductions in revenue" and that analysts "failed to disclose with all investors" in their road show promoting the IPO or in updated regulatory filings that they were "materially" lowering their revenue forecasts.

"These revenue revisions," the lawsuit alleges, "were material information which was not shared with all investors, but rather, was selectively disclosed by defendants to certain preferred investors and omitted from the Registration Statement and Prospectus."

In Tuesday's statement, Morgan Stanley said it forwarded a copy of Facebook's amended filing to "all of (its) institutional and retail investors."

All the controversy surrounding what is now dubbed Facebook's "botched" IPO has garnered the attention of Wall Street regulators. The Securities and Exchange Commission, the Financial Industry Regulatory Authority and the Senate Banking Committee have all intimated that they will review the issues and circumstances surrounding the Facebook IPO.

Separately, on Tuesday a Facebook investor filed a lawsuit against the Nasdaq OMX Group, and the office of Massachusetts' secretary of the commonwealth confirmed that it had issued a subpoena to lead underwriter Morgan Stanley.

JPMorgan Chase, Goldman Sachs, Bank of America Merrill Lynch and Barclays Capital all declined to comment.