Classmates IPO Commentary - Why Classmates.com Sucks

United Online decided to halt the IPO of Classmates Media, citing unfavorable market conditions. I find this reasoning highly dubious, considering the social networking buzz is at the peak of the bubble. Furthermore, the IPO of Classmates would give investors who want to invest in social networking  the only pure play on the industry.

This is just speculation on my part, but at this point, I highly doubt Classmates will IPO ever. I don’t see the market for a Classmates IPO getting better. First, if Facebook IPOs, investors who want to invest in social networking will buy Facebook and ignore Classmates. Furthermore, I personally believe these social networking sites are greatly overvalued right now, so if anything, valuations should go down in the future.

I’ll keep this blog open in case Classmates decides to IPO eventually and to cover other major Classmates-related news, but I don’t expect to be making many posts in the future.

From what I can tell, this is the week of the IPO. Here’s an interesting article about the Classmates IPO.

Today, UNTD is down about 5% as of this post and yesterday it was down about 4% (while the market was up 3%). No major news has broke in the past few days, so it may be investors just taking profits or people thinking the IPO won’t go so well.

UNTD has previously been on a good run and is still up by about 11% over the past 3 months (compared to a break-even S&P 500).

Today, Classmates.com’s parent company United Online (UNTD) disclosed the terms of its IPO. It will issue 12 million ” shares with a price of $10-$12 per share. This will value classmates.com between $600-$720 million!Talk about a social networking bubble. A site, which isn’t making any money (and no reasonable person would expect it to grow in the future) is suddenly worth $600-$720 million. Are we in 1999 again?  Granted, I am biased since I am short UNTD and will definitely short Classmates stock when it comes outNo date has been set for the IPO. As someone who is short, I would prefer they delay it as much as possible, so the market as a whole realizes how bad of an investment this site is.In other news, the Federal Trade Commission is looking into Classmates.com’s rebilling/automatic renewal practices. Some customers have complained that they were automatically renewed against their wishes or were somehow unable to cancel their automatic renewals. Classmates.com disclosed that they would lose a material amount of revenues if they had to change their rebilling practices.This is, of course, because their service is basically useless to most people in the facebook/myspace world, so if all of their current customers got around to canceling their subscriptions, they would be screwed since it’s going to be more difficult for them to get new, paying customers.

After announcing its IPO in August, Classmates.com hasn’t produced much more information about its IPO. It’s still not clear when the company will be spun off United Online (though United Online will still own a controlling stake through its B shares).

The stock has received some attention during the past couple of months due to other social networking sites. It was rumored that Microsoft might be buying a 5% stake in Facebook that would value Facebook at $10 billion. This rocketed shares of UNTD since people assumed other social networking sites, like Classmates, would receive favorable valuations as well.

Time will only tell if the Classmates IPO will be the next Vonage or perhaps the next VMware. I’m betting on Vonage, which is why I’m still short UNTD.

Here is the gist of why I believe the upcoming Classmates IPO will flop. In full disclosure, I am currently short Classmate’s parent company, United Online, and will most likely short Classmates stock when it begins trading.

1. Classmates has virtually no growth potential. If Classmates went public in 2003, I wouldn’t be writing this blog. However, this site is fundamentally a joke now due to Facebook and Myspace. It has competitors that have a superior product, yet do not charge any money and the consumers know this. People only join so many social networks, and they will certainly join Facebook and Myspace before Classmates. If you look at Classmates.com Alexa ranking, you can see that it is actually seeing decreasing traffic, whereas its competitors, especially Facebook, are seeing soaring traffic. The social networking revolution does not help all social networking sites; it only helps the best, which in this case is Facebook and Myspace.

2. Those touting Classmates stock are often using incorrect metrics. Classmates often boasts its number of users. However, its raw number of users is a pointless statistic. Someone who signs up and never goes back to the site is not worth nearly as much as someone who pays (in Classmates case) or who actively visits the site daily (as is the case in Facebook/Myspace). If I wanted to, I could sign up myself, my dog, my six imaginary girlfriends, and my dentist in 10 min at any of these sites, but we all know those registrations mean nothing for the site’s bottom line. In terms of judging the site’s growth, you should base it on the amount of web activity at the site (pageviews). In this case, Classmates is actually dwindling.

3. Classmates is taking advantage of investors’ desire to invest in social networking. Right now, there’s no major social networking play on Wall Street. Myspace is owned by News Corp, and the percentage of News Corp that Myspace takes up is minimal. Facebook is still private and won’t IPO for quite awhile. United Online is hoping to sell Classmates at a huge premium because of this because some investors will pay anything just to have a social networking stock as part of their portfolio (just as many investors paid dearly to have any tech stock in their portfolio in 1999).

4. Classmates billing and email practices are a bit shady. If you read the epinions reviews of Classmates.com, you will see many people are upset that were automatically rebilled when they did not wish to do so. This method of making money will only work so long, and will likely result in chargebacks. Furthermore, if you read the United Online prospectus, you will see that they admit that recent email legislation will make it more difficult to hard sell the “free members” that sign up to convert to “paying members.”

5. Classmates is not making money currently. If it’s not making money now; how on earth will it make money in the future?

6. Classmates competitors have a superior product at a much lower price (free), and all the consumers know this. Have I mentioned this already? Oh, I have. This is the fundamental reason why Classmates is the next Vonage.

This blog is going to track the upcoming Classmates IPO. Classmates.com is a social networking site, similar to Facebook and Myspace. However, unlike those two popular sites, Classmates.com is much smaller and in fact charges its customers to use its site. Because of this, Classmates.com is the joke of the social networking world, yet it’s gaining a lot of attention since it will be the first to IPO.

They estimate their IPO to be worth $125 million. It’s not clear what percentage of Classmates.com will be traded, since its parent company, United Online, will control over 50% of the company through Classmates B shares.

Full disclosure: I am currently short United Online.