Deciding on investing in an IPO is as tedious as choosing career goals. It involves adequate research and dedicated quality time in analyzing the appropriate option for you. Thus, it is essential to have a checklist before you venture into the world of IPOs.
Here we have presented some Must-Know points that you must cater in mind-
What is an IPO?
It is a process when a privately held company “ goes public” by selling a portion of its stake to the investors on the stock market. The company can either offer newly issued shares or previously held shares by the founders and early investors. Investors who put their hard-earned money in an IPO are among the first investors who buy the shares after it is public.
The details of the first sale of the shares are provided by the company in the prospectus which can be easily accessed by institutional investors, high net worth individuals (HNIs) and the common public. The prospectus is a lengthy document that highlights the detailed vision, previous financial statements, objective of the issue and the other details of the proposed offerings.
After the IPO is done, the company’s shares get listed, which can be traded freely in the open market. It is to be noted, A minimum free float on the shares both in absolute terms and as a ratio of the total share capital is imposed by the stock market.
Does investing in an IPO always lead to big profits?
An overwhelmed response to Initial Public Offerings (IPOs) hit the market when bulls are leading the way and investors yell out to subscribe to most of these IPOs, hoping to strike it rich.
But, an IPO does not always make a killing all the time and, in fact, in many IPOs investors suffer huge financial losses. They had to burn their fingers in response to their sentimental judgement.
For example, the IPO of ICICI Securities. It was listed in April 2018 with a listing price of Rs 519-520 per share. However, soon after the issue, the prices of the shares kept falling and closed 15 per cent below the issue price on its market debut.
Yet the herd mentality is the main driving factor for the investor to subscribe to the IPOs. Though, one can not deny that there have been most rewarding shares in the past, but they can be put as exceptional cases. It can not be ignored that most of the IPOs provide negative returns when bears are in full force.
The strategy viewpoint lies here. Promoters and initial investors try to cash the booming market when bulls are the ruling kings. So that they get a handsome price for their shares. Due to the huge demand created in the market, the stocks prices may inflate during the bulls are in power. Thus, in return, some lucrative ROI (Return on investment) profits some investors. But, as soon as the market turns in bearish mode after listing, the inflated prices of these stocks collapse, leaving the investors in flounder.
Factors influencing the choice of Investment-
1) Investment Goals
Before investing in an IPO, you must decide and discover what kind of strategy will suit your investment goals. This is because one has to be clear with “Why”. Why they are investing in the stocks and what return they are aiming for. Further, a lot of your decisions are dependent on your ‘current investment portfolio’. For example, if you invest heavily in the small-cap sector, thinking of investing in an IPO from a small enterprise can dwindle your portfolio to a lopsided way.
On the other hand, investing in a large firm IPO may help you bring some balance to your portfolio.
2) How Long You Are Willing To Wait?
Here, one has to decide, whether they are planning to invest in an IPO to secure quick profits on the day of listing or they are looking for holding options.
This though position has to be concluded with rationale, as it can alter your IPO strategy. A short-term strategy is heavily dependent on current market sentiments whereas a long-term plan will compel you to dive deep into the fundamental analysis of the company.
3) Research Well about the company
Never rely on what your family and friends are suggesting you invest in. Their goals can differ from yours. When it comes to investing in stocks, one has to do deep research about the company you are planning to invest in, no matter how hard it is, but the right approach is the key. Download the company’s prospectus from the SEBI website, and read the details thoroughly. The prospectus contains the objective of the issue, promoters entails financial standing of the company and many other points. Do not skip through any point. Analyse-it well. If you are unable to understand the jargons, do not be shy to approach the experts.
To further complement your research, you may track the media reports and eye on the developments in the company. Look for whether there are any defaults in corporate governance, any legal disputes that the company is handling, any ongoing compliance issues, and other factors to gauge the fundamentals of the company. Such steps can help you in concluding- whether you should invest in or not?
4) How Will The Company Utilize The Proceeds?
It is recommendable that before investing in an IPO, the investor should clarify the utilization of the proceeds. If the company is aiming to pay off the loans from the proceeds, then it is not an attractive offer. But, if the company says that they will partly pay debts, expand a business, open a new chain store, or for general corporate purposes, then investing in such an IPO can be rewarding.
5) Don’t Forget The Valuation!
This is an important aspect that shouldn’t be overlooked. To start with, see how the valuation of the company fares as compared to competitors in the same industry. Employment of mechanisms like Price to earnings ratio, price to book ratio and return on equity gives a better view of investment.