Facebook’s initial public offering will certainly be the tech IPO of the year if not the decade. Demand is expected to be strong with conflicting reports that institutional demand is weak but everybody agrees that retail demand is more than robust. In a sign of strong demand, the company raised its price range to $34-$38 from $28-$35.

When evaluating stocks there are three approaches investors and speculators take: 1) Fundamental analysis, 2) Technical analysis, and 3) Hope.

Evaluating shares of initial public offerings is no different than shares of any other public company when it comes to fundamentals other than the fact that many new offerings tend to be of companies who are relatively younger than companies who are public already. When it comes to technical analysis, IPOs do not have any trading history which is the backbone of technical analysis. When it comes to hope, there is not a lot of difference except that hope and enthusiasm among investors is very high for overly hyped IPOs. Saying that the Facebook IPO is overly hyped would be an understatement.

So what does this mean for Facebook’s shares once they start trading later this week? Fundamental value investors will shy away because Facebook’s valuation is hard to justify to an investor like Warren Buffett for example. However, there will be many growth investors who will clamor to the stock. Technical and momentum investors will take the initial demand, level of over-subscription, and opening price in consideration and will trade it accordingly. It’s the third category, investors who trade on “hope”, who will be the main culprits in any spike that we will see.

So when Facebook starts trading on Friday May 18, expect the shares to spike above $70 on their first day and possibly reaching $100 in the first hour or two of trading solely because of overanxious investors supported by growth investors who believe that Facebook will substantially grow earnings over the next 5 years. However, don’t expect that level to hold because of the large number of shares being offered – 337 million total – between the shares the company is selling and those being sold by insiders.

When trading IPOs, the number of shares being offered is the most important determinant of how high and how long a first day spike lasts. At the end of the day it is a case of supply and demand and the higher the number of motivated sellers available the less likely a big spike is maintained. The large number of shares being offered will likely make the stock less volatile over the medium term in the days and weeks ahead as it is easier to find an equilibrium price if there are many participants. Hence I do expect a nice spike on the first day to the tune of 100% above the offer price to around $70 or more but expect a price closer to a 50% spike or around $50 to be the more likely price over the medium term.

Given the small amount of shares being offered and given the popularity and name recognition that the site enjoys, I expect the shares to do very well on their first day of trading and a nice IPO-day pop is expected. However, the main question is will the shares maintain their altitude post IPO and what will drive them higher in the future?

After looking at the latest Yelp S-1 filing, I can only say that the financial future of the company is not that promising in terms of future profitability in the next couple of years. If you believe that a company’s stock price is a function of its future profitability then you won’t find many profits in Yelp for the next couple of years. The company has never been profitable and lost nearly $17 million in 2011. However, Yelp has built an impressive website that saw 66 million monthly visitors last year – but how much is that worth?

Yelp generates revenue from local advertising (70% of total in 2011) by local merchants as well as branded display advertising (21%) and deals (9%). It operates in 46 markets (cities) in the US and 25 internationally for a total of 71 as of the end of 2011. What is noteworthy is that 44 markets (62% of total) are two years old or less (22 each in 2010 and 2011) which means that there was a huge investment in rolling out coverage of these markets with revenues still trickling in slowly. What is also noteworthy is that, at least in the US, each new market being opened is smaller, on average, than pre-existing markets. Logic says that you start operating in the biggest markets first then expand to smaller ones. So a market like San Francisco or New York City opened in 2005 and 2006 respectively are bigger than Providence (2010) and Buffalo (2011). It is “probable” that smaller markets are likely less expensive to set up and maintain but it is certain that they will likely generate less total revenue. This is significant in that future revenue growth will slow down as the company expands to new (smaller) markets – everything else being equal. So what else are you getting at a $780 million market cap:

- 24,000 paying local customers who shelled out $58.5 million in 2011 or $2440 per client per year. At $780 million market cap, you are paying $32,500 per client or 13.3x annual revenue for each local customer.
- 606,000 claimed businesses or in other words potential clients or leads. If you back out those 24,000 who are existing clients then you are paying $1340 per lead.
- 71 local markets that have been set up, local businesses catalogued, and sales and support staff hired to sell into and maintain. Per market, you are paying nearly $11 million.
- 66 million monthly visitors. This translates to $11.8 per monthly unique visitor

Now the purpose of this exercise is to show you what exactly you are paying for the set of digital assets that Yelp has. They are certainly valuable; they generate revenue and cost time and money to reproduce. However, are they worth the price you are paying or will pay post IPO? At $13 or higher my answer is a definite no. Having said that, I do expect a nice exuberant pop at the open and in the days immediately after the IPO. Yelp is a takeover play and not an earnings growth play. It is a speculative stock that will go up and down based on market sentiment for tech and social media stocks as well as the market overall. It is an ideal takeover for a big consolidator in the tech/social media space. Perhaps Google (NASDAQ:GOOG), Yahoo (NASDAQ:YHOO), AOL (NYSE:AOL), IAC (NASDAQ:IACI) may be interested at some point but most of these players already have a local/city product among their offerings. Still, if a consolidator picks it up, it won’t be at those multiple levels. My back of the envelope calculations puts the takeover value of Yelp today at $375 to $500 million ($6.25-$8.33 per share) based on a generous 50% revenue growth in 2012 to $125 million and based on the assumption that a consolidator can squeeze half of that in EBITDA ($62.25) and then slapping a 6 to 8 multiple on that. Incidentally, that comes out to the 4-5x sales multiple that I have always considered advertising based internet stocks are valued in a takeover by a strategic acquirer.

Perhaps with a new currency, its stock, Yelp can be the consolidator by rolling up other small local players such as Angies’ List (NASDAQ:ANGI) or Open Table (NASDAQ:OPEN). Either way, this stock is only for those with an extremely high tolerance for risk. Keep in mind that the longer Yelp remains public under its existing business plan the more likely it is to run out of cash and come back to the market to sell more shares diluting existing shareholders. So if you are lucky enough to get shares in the IPO from one of the Underwriters then you will be well served if you sell soon after the IPO. If you do not get any shares before it starts trading then you should look away and fight the temptation to jump in if you see the stock making huge advances.

Motorola Mobility (NYSE:MMI) and Google (NASDAQ:GOOG) entered into a definitive agreement in August of last year whereby Google agreed to acquire Motorola for $40 a share or $12.5 Billion. At the time, this represented a 60%+ premium to Motorola’s closing price the previous trading day. As a value investor, I was fortunate to have owned Motorola shares in client accounts before the merger was announced. Knowing that the acquirer was Google, I was pretty assured that the deal will promptly close by the end of 2011 or early 2012 as had been announced since Google had all the financial resources needed to close the deal. However, the deal had to be cleared by Anti Trust regulators in both the US and the European Union. When in late September the Anti Trust Division of the US Department of Justice sent both companies a request for more information I, along with many investors, deemed it a routine request and that the merger will be cleared by the DOJ. Then in early December, the European anti-trust review process was suspended as regulators requested more data as well. Investors grew more wary and Motorola’s stock was trading below $38 in early January. This is pretty important as the difference between the price Motorola shares were trading at and the merger price, known as the arbitrage spread, was rather large for a merger expected to close within 30 days.

It seems that both the DOJ and EU are about to submit their verdict as soon as next Monday according to the Wall Street Journal. Now I have no particular insights as to how the decision will go but there are basically 3 decisions that each regulatory body can take: Approve the merger, deny the merger, or submit a mixed verdict such as a partial approval if certain actions are taken. For all of you math geeks out there, this means that there are 9 different outcomes and they are listed below.

To reach the merger Promised Land, outcome 1 above needs to happen which means that there is a meeting of the minds between the two regulatory bodies. It can very well happen but there is a chance, however slim, that it might not. Google has been making efforts to allay fears that it will not fairly license the vast trove of Motorola patents to competitors. This may do the trick – but then again it may not be enough.

Motorola’s stock closed at $39.35 on Thursday, 1.6% below the $40 merger price. If the merger indeed gets approved then you will likely earn that extra 1.6% by the end of February when the merger closes – if you currently own the stock. However, if any outcome above other than outcome 1 is rendered next week then Motorola’s stock is likely to lose more than 1.6% – a lot more probably. If you own the shares, look at the February $38 and $39 Motorola Put Options (which expire on February 17). You can buy insurance at $0.10 a share and protect yourself from a much bigger downside in case the deal is not approved or delayed. If you don’t own the shares, then looking at those same Put option will give you exposure to a real grey swan trade that can payoff very big but will cost you little.

Disclosures: I no longer own Motorola shares but I maintain a miniscule exposure in Motorola Put options.