LinkedIn IPO Underwriters Stop Saying 'Buy' Following Surge

(Bloomberg News) LinkedIn Corp. has suffered an unusual loss of support from the securities firms that led the professional-networking website's initial public offering less than three months ago.

Morgan Stanley cut its investment rating on LinkedIn's shares today, less than three weeks after JPMorgan Chase & Co. took similar action. The firms were the lead managers of the IPO along with Bank of America Corp.

The latest reduction made LinkedIn, based in Mountain View, California, the second U.S. company since 2000 to be downgraded by two lead IPO managers within 90 days after going public, according to data compiled by Bloomberg. TeleNav Inc., a maker of global-positioning software for mobile phones, was the first.

"It's a high-pressure call," Philippe Lanier, a former Bank of America analyst who reduced his rating on Western Refining Inc. less than three months after the bank helped lead the company's 2006 IPO, said in a telephone interview today. "It's very difficult to give a message to your sales force and have them come out with confidence."

An investigation almost a decade ago by then-New York Attorney General Eliot Spitzer and the U.S. Securities and Exchange Commission resulted in Wall Street agreeing to strengthen barriers between investment banking and analyst research. Since then, firms have been more worried about the legal repercussions of failing to separate the groups, Paul Meeks, an analyst who covers LinkedIn at Capstone Investments Inc. in Charleston, South Carolina, wrote in a July 26 e-mail.

LinkedIn was reduced to "equal-weight" from "overweight" by Morgan Stanley's Scott Devitt, based on valuation. He wrote in a report that the stock was trading at about 30 times his estimate of earnings before interest, taxes, depreciation and amortization, a cash-flow gauge, for 2014.

"We're not as focused on the valuation," Jeff Weiner, chief executive officer of LinkedIn, said today in an interview on Bloomberg Television's "In the Loop" with Betty Liu and Jon Erlichman. "We're going to leave that to the market."

The stock dropped 4.4 percent to $91.36 at 4 p.m. in New York, extending its decline since July 15, when it closed at $109.97, to 17 percent. The company went public at $45.

Devitt followed the example of JPMorgan's Douglas Anmuth, who cut his rating to "neutral" from "overweight" on July 18. Anmuth wrote that LinkedIn's market capitalization was approaching that of Netflix Inc., a video-rental company with seven times more revenue and Ebitda.

Pen Pendleton, a spokesman for Morgan Stanley, declined to comment on the downgrade. At JPMorgan, spokeswoman Sarah Stipicevic said Anmuth wasn't available for an interview. Both firms are based in New York.

Bank of America is sticking with a "buy" rating on LinkedIn, which was reiterated after the company's earnings report yesterday. LinkedIn reported a profit, rather than the loss that most analysts in a Bloomberg survey were anticipating, and beat the average revenue estimate.

While JPMorgan declined to comment on Anmuth's downgrade, the company said its ratings policy follows SEC regulations. They include a "quiet period" in which no underwriter can begin coverage for 40 days after an IPO.

Morgan Stanley and JPMorgan's cuts made LinkedIn a standout among about 2,500 U.S. IPOs since 2000, according to Bloomberg's data. TeleNav, based in Sunnyvale, California, was downgraded by both of its chief underwriters in July 2010.

Deutsche Bank's Jonathan Goldberg reduced TeleNav to "hold" from "buy" and JPMorgan's Paul Coster cut the stock to "neutral" from "overweight." They acted after the company said it would probably receive less money from Sprint Nextel Corp., its biggest customer, in an amended contract.

Analysts at investment banks are more likely to be bullish on stocks than those at independent research firms, Meeks said.

"The former will almost always have higher price targets and will stay at the party too long," keeping buy ratings as a company's business worsens, said Meeks, who has a "sell" rating on LinkedIn.

Just 5.1 percent of analyst ratings are "sells," according to Bloomberg data compiled in May. Out of 1,890 analysts, fewer than 1 percent advised investors to unload a Standard & Poor's 500 stock that later fell or to buy a stock that rose after their upgrade, the data show. The study tracked S&P 500 companies between January 2009 and April 6, 2011.

Morgan Stanley's Devitt raised his revenue and Ebitda estimates for LinkedIn through next year even as he cut the stock's rating.

LinkedIn was the hottest IPO in the U.S. since at least 2006, reflecting surging demand for social-media stocks and a comeback in venture capital-backed companies.

The stock rose as high as $122.70 on May 19, its first day of trading, from an initial price of $45. More than 30 million shares changed hands, or 3.8 times the number of shares sold to the public -- the biggest difference between supply and demand in at least five years for an IPO of a U.S.-based company, according to Bloomberg's data.

LinkedIn's surge was reminiscent of the rallies in newly public companies during the 1990s Internet-stock bubble. In 2002, Spitzer and the SEC began investigating the research industry in the midst of conflict of interest scandals that erupted after the bubble burst.

Star analysts such as Jack Grubman, a telecommunications specialist at Citigroup Inc., and Henry Blodget at Merrill Lynch & Co. had recommended stocks to win investment-banking business, according to lawsuits filed by the SEC.

Blodget called InfoSpace Inc. a "piece of junk" in an e-mail in 2000 even as he recommended investors buy the maker of Internet-search software, according to an SEC complaint.

In 2003, the SEC prohibited Grubman and Blodget for life from associating with a broker-dealer or investment adviser. They didn't admit or deny wrongdoing in their settlements.

Spitzer and the SEC also settled with Goldman Sachs Group Inc., Merrill and eight other major banks. They were permanently barred them from using investment banking revenue to compensate research staffs and fund their work.

The SEC has since prohibited actions such as the linking of analyst compensation to specific deals and providing favorable research to encourage investment-banking business. In July 2006, Wachovia Corp. agreed to pay $25 million in fines to settle allegations by regulators that analysts participated in presentations with potential investment clients.

The role of the analyst is to provide a well-structured opinion and to have strong and convincing evidence for every argument, said Lanier, who now works for EastBanc Inc., a Washington-based real estate firm.

"If you're consistent with what you saw and you have fundamental research behind it, you should be able to articulate that to the client," he said.