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Should You Bet the FarmVille on Internet IPOs?

Despite the hype surrounding Zynga (ZNGA), IPO investors would have done a lot better this year in prosaic pipelines than in social media, analysts say.

The maker of FarmVille and Words with Friends will start trading Friday, and is expected to price its shares at between $8.50 and $10. That would value the company at $6 or $7 billion, a substantial discount to the $15 or $20 billion some had predicted earlier in the year. Still, the stock may have a strong first-day performance, says James Krapfel, an IPO strategist with Morningstar.

It’s what happens after that the first day that investors should be worried about, analysts say. A recent study by Birinyi Associates found that 55% of this year’s 30 Internet or social media IPOs were trading below their opening price after a month. In fact, about 80% of all the companies that have gone public this year are now trading below their first-day closing prices, Krapfel says. “The difference between first day-performance and performance from the first day on is very significant,” he says. “Post-first-day performance has been pretty abysmal this year.” And Zynga in particular looks risky because it would be relatively easy for another game-maker to steal some market share with a hot new game, Krapfel says.

To be sure, some analysts believe Zynga could buck the trend. The company has opted to offer 17% of its total shares to the public, while Groupon (GRPN) sold only 6% and LinkedIn (LNKD) sold 9%. That means Zynga accepted a lower valuation in order to raise more money by selling more shares, which benefits longer-term investors, says Josef Schuster, the founder and CEO of IPOX Schuster, LLC, a company that designs and runs financial products focused on IPOs. “If you hold it for three to four years, I think it makes sense to add it to your exposure,” Schuster says.

So far this year, however, retail investors would have been better off investing in some of the less-hyped IPOs. The best-performing sector this year has been energy, thanks to a number of Master limited partnerships. Pipeline companies “tend to pay high dividends, and investors have favored these shares in a yield-hungry environment,” Krapfel says. Consumer sector IPOs were the next-best source of return, with a couple of standout deals landing near the top of the overall list, including vitamin-retailer GNC Acquisition Holdings (GNC), up 62% from its first-day close, and Spirit Airlines (SAVE), up 34%.


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