Explained: What To Look For When Investing In An IPO
There has been a significant improvement in the quality of companies that have been listed on the stock markets in the last few years which has led to IPOs raising record capital.
There has been a significant improvement in the quality of companies that have been listed on the stock markets in the last few years which has led to IPOs raising record capital, according to experts.
IPOs this year have raised Rs 60,000 crores so far with many high-profile listings yet to come. The amount raised in 2021 will likely surpass the Rs 67,000 raised in 2017.
Pranav Haldea, Managing Director of Prime Database believes that the quality of the companies listed have contributed to the stunning amounts being raised.
"I do believe that there has been a significant improvement in the qualities of companies that have come to the market. What you used to see in the 90s and the early 2000s was that a lot of companies would come into the IPO market to raise fresh capital. These would be three or four-year-old companies, which would be looking at raising fresh capital to invest in plants and machineries etc.
"What you are seeing now is that the initial risk capital is actually provided by venture capital, private equity investors, which are pumping in that money, getting that company to a certain scale and it is only then that the company is coming to the market. And which is why you have seen a significant reduction in the number of IPOs. But the average deal size has been increasing," Haldea told BOOM.
The upcoming IPO of the Life Insurance Corporation of India has led to a lot of excitement among investors. The government is hoping to conduct LIC's IPO even as last as March 2022 as part of its push to privatise public sector undertakings.
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According to market expert Ambareesh Baliga, the excitement around LIC's IPO is down to its brand recognition and the trust it has earned over the years. However, Baliga believes that investors wouldn't need to resort to borrowing money for the IPO due to its huge size.
"As far as LIC is concerned it is clearly the brand and the trust in that name which I think will sell because everyone on the street knows what LIC is. I think it will also depend a bit on the valuation.
"I do not think LIC will require borrowing and investing because it is going to be a huge IPO. I do not think it will get really oversubscribed that 50 times or 100 times even. I will be really surprised if it gets oversubscribed 4-5 times," Baliga said.
Edited excerpts follow
Could you give us a wrap of what you have been seeing in terms of the flow and of the IPOs, of the numbers , the kind of investors that have been subscribed to these offerings, the money that has been raised and where it has all landed as we stand here today?
Pranav Haldea: This year has been a bumper year for IPOs. This calendar year has had 36 IPOs, over Rs 60,0000 crores has been raised, and we are still only towards the end of August. The only full calendar year which has actually seen a higher amount being raised was back in 2017 when Rs 67,000 crores were raised. Of course, we are well on track to surpass that figure.
There is a very strong pipeline as well. In fact, if I look at this calendar year, the number of companies that have actually filed their DRHP with SEBI has also been at an all-time high.
As we speak right now, there are about 13 companies holding SEBI approvals looking to raise 15,000 crores and another 41 companies awaiting SEBI approval waiting to raise 80,000 crores.
If this pipeline were to materialise this would be a super bumper year for IPOs and you are not even taking into account the expected IPO of LIC, which will happen somewhere either in the calendar year or the fiscal year.
You are seeing companies across sectors. One of the key trends this time around has been the new age companies, the new age start-up companies that have come into the market. You have already seen Zomato and Car Trade coming in. And a lot many more like Policy Bazaar, PayTm, and MobiKwik, all of those are in the pipeline.
You spoke about the participation of retail investors. Ever since the pandemic you have seen huge participation from the retail investors in the IPO market and also in the secondary market. In fact, just a few days back, we did a study which showed us that in the NSE listed-universe of 1800 companies, retail shareholding is at an all-time high. So not only are the retail investors actively coming into the secondary market but also in the primary market. You can see it in the number of applications that are coming in. You are seeing upwards of 30 lakh applications in some of the recent IPOs which have come in.
How will this go on? You have seen historically that primary markets tend to follow secondary markets. So till the time that the rally that you have seen, since the March of 2020 continues, I expect you will continue to see new launches, but in case there is weakness in the secondary market ,then you know for sure that the primary market would follow suit as well. You have seen this in the past as well.
Why did this suddenly happen? Is it only because of the way some companies were offering shares which was mostly shares of their existing shareholders rather than money into the company? Was it that kind of a problem or is it a weakness that is beginning to show because finally the supply of money is limited?
Ambareesh Baliga: Right from the beginning of this IPO season, more than 85 per cent of the money that was raised was not from the IPO but actually from something I would say Offer For Sale. Because it was either owned by the PE investors or by the promoters, which were sold to retail shareholders or retail investors or the institutions that are there.
And again looking at the number of investors that are there now, since 15-17 months, nearly 1.5 crore new investors have come in. And even if you assume 1 lakh per investor it works up to a huge 1.5 lakh crore and that is big money. I would not even assume an average of 1 lakh, surely someone who has started in the last couple of months would be investing more than 3-4 lakhs. Otherwise, they will not come into the markets directly. They will invest in mutual funds.
So we are talking of huge liquidity. I think in this IPO market, everybody is there to take advantage of it. They want the best valuation, which is possible and when you are looking at the investors coming in. Basically for retail investors, if they apply and get it, it is a lottery.
For HNIs, it is basically a return on leverage investment. I mean depending on how many times it is getting oversubscribed, they borrow. Similarly, whatever they get, they flip on day one. No one is really looking at long term investments. I think it is clearly an opportunity for them to park their money for some time. Otherwise it would be very difficult to explain as to why a dividend yield mutual fund would invest in Zomato where you do not even expect your dividend fund for the next 10-15 years. But they are investing because they can flip as soon as that one month period gets over, they can exit and that is exactly what happened a couple of days back for Zomato.
So I think everyone here is looking at making money it is not a question of how you make, it is a question of how much you make.
This is not the first time this is happening, it has happened many times or points of time in the last 25-30 years that the markets have been ruling above 1000, close to the 90s. What happens usually, what is the pattern? How does it work?
AB: What we have seen in the past, at least in the last 20 years, is that there is really a time lag between the secondary market really moving up in the bullish zone and the IPO markets starting to perform. Generally, there is a time lag of about 5-6 months and that is the time taken for most of these companies to file the documents and come out with an IPO.
What we have also seen in the past is whenever there has been a huge IPO, the markets have corrected post that. If you talk to ONGC, when it came, after that the markets corrected. Reliance Power 2008-09, again that is a very good example. It may not be because of the Reliance Power that markets fell, it maybe because of the Lehman crisis, which could have been a coincidence. Coal India, GIC, recently in the last four-five years. Like you have New India Assurance that came out.
After that the markets have fallen. But could we have applied the same thing to Zomato which was again a large IPO? Possibly not, because Zomato as such looks like a big IPO, but looking at the amount of investors that are there in the market right now, the sort of liquidity that is there, compared to that, you cannot compare a Zomato to ONGC which came about 20 years back. But I think when LIC comes out with an IPO, possibly that could be one of the reasons for the market to correct at that point of time, unless of course there are other factors that make the markets correct themselves before that.
I was talking to another analyst a few days ago and he was saying that if you look at most of the IPOs that came around in the 2007-08 period, most of them have done badly. Mostly the stocks that we are actively trading today in the secondary markets were IPOs at once upon a time. What is your sense? How does this story usually end?
PH: That is a very good point. In fact, we have done a study recently looking at historical data. So, just bear with me as I give you some numbers. In 2007 you had 100 IPOs and as on date, if you look at it, only 23 are there which have given positive returns. Even the more alarming part of that is 31 out of those 100 companies are either delisted or suspended and a further 17 of them are in ESM, which is the surveillance mechanism.
So, you are only talking of 1/4th of the companies that are giving positive returns. 2010 there were 64 IPOs, only 17 are positive, 20 are no longer traded. 2017, 36 IPOs, 23 are positive; 2018, 24 IPOs, 13 are positive; 2020 of course all the IPOs that came in are positive. Historically if you look at the mid-2000s there are a lot of companies that are no longer in existence, de-listed or suspended. But the picture changes slightly if one looks at the last 3-4 years.
I think there are a couple of reasons for that. One is that we are trading at an all-time high right now. But also, I do believe that there has been a significant improvement in the qualities of companies that have come to the market. This I would like to tie in with the earlier point that you mentioned about OFS and fresh capital. Because what you used to see in the 90s and the early 2000s was that a lot of companies would come into the IPO market to raise fresh capital. These would be 3-4 year old companies, which would be looking at raising fresh capital to invest in plants and machineries etc.
Now, what you are seeing is that the initial risk capital is actually provided by venture capital, private equity investors, which are pumping in that money, getting that company to a certain scale and it is only then that the company is coming to the market. And which is why you have seen a significant reduction in the number of IPOs. But the average deal size has been increasing.
So, how will this pan out going forward? What you have seen traditionally and what you have learnt is that in the first stage of the IPO cycle is that you have good companies at attractive valuation. But as the cycle goes on, you find that valuations tend to become more and more expensive. You know my advice would be that investors should not get into this frenzy and greed mentality of listing gains. Each and every IPO needs to be well considered, look at the financials, the governance and the management of the company and only then look at investing into it.
We know this is always about Yin and Yang. It is about if the markets are high, you obviously want to prove your IPO high so that you get the best value for all the work that you have done. And the investor on the other hand is obviously trying to get a good deal before it lists so that she/he can make profit on listing with all the examples that you gave. So, this will always be a battle or a match between these two interested parties. But how do you see it today? Is that the reason why some of the IPOs that we talked of are doing badly or not so well because they out price themselves in some ways or could there be something more intrinsically wrong?
AB: No, if you look at most of the IPOs they are priced quite steeply. Then, it clearly depends on what sort of interest you have created in the markets for these names. I think at least in the short term, more than the fundamentals and how the company is, it is the marketing that works in the IPO market. So, if it has been marketed well, yes, you can possibly see action in those counters for a while, and again everyone is looking at momentum. In today's market, whether it is IPO or secondary market, people are looking at momentum. Wherever there is momentum, there is interest. Where there is no momentum it generally starts drifting down.
As far as the IPOs are concerned, it is as good as whether you made money in the previous IPO or not. It is just like those movie releases. If the Friday does well, then fine, you are happy and you want to invest more in the next movie. It is like something similar.
LIC as we said is the big elephant in the room. So, tell us what could that size be, what could it do to the market at least at the IPO stage?
PH: First, I would like to make a small comment about the valuations. Historically, also in previous IPO boom cycles in 2010, or 2017 you did see a few deals getting launched that said these are very expensive, the valuation is too high but those companies have done well subsequently. So, my point is that as long as the IPO is priced well enough to garner subscriptions for it to sail through, it clearly shows that the price was right, so to speak. There was enough demand for that IPO at that particular price.
Now, we cannot go on into the future, maybe one week, one year, five years later and then compare the issue price with the current market price and say that: Oh that IPO was priced expensive because it is trading below issue price now. Because once it enters the secondary market it becomes like any other listed company which is moving up or down on the basis of quarterly financials, based on how the sector is doing, how the economy is, how the demand supply is. So that is my point on valuation.
As far as LIC is concerned, I think that is a very highly anticipated deal. They are also short listing bankers right now. Of course, it is going to be a very large issue. You know I also have a slightly different point of view on the supply of money and the liquidity issue. I do think that supply is really not a constraint. If there is a good IPO being launched at an attractive valuation, you will find enough or more liquidity coming towards it.
I think in the last 15 odd months have shown that while primary market issuances are happening, the secondary markets have also rallied. The argument that has been stated for a long time that when there are a lot of primary market deals, then there is a correction in the secondary market because they have to suck out the liquidity from there. I do not think that really holds true. And the last 15 months have been testament towards that.
With the kind of money which foreign investors, domestic institutions, and now retail as well which has come in the last few months, I think if it is attractively priced, and if adequate discounts are given to retail investors you can ensure that it is a mega success.
How is the LIC thing looking to you even as a theme? And more importantly, how do you see the overall market and investor sentiments which will either continue to feed the IPOs or maybe even not feed them?
AB: As far as LIC is concerned it is clearly the brand and the trust in that name which I think will sell because everyone on the street knows what LIC is. I think it will also depend a bit on the valuation. As far as liquidity is concerned, it is something to be seen as it is the first time we will have this huge liquidity going out of the market because of the LIC issue.
In the past I do not think we have seen too many beyond that 10,000 or 14,000 crores going out at once and this is going to be nearly five times that. So, I think that needs to be seen, as to what sort of reaction is there, post this liquidity going out of the market.
People borrow money to invest in IPO. Should they be doing that?
AB: I do not think LIC will require borrowing and investing because it is going to be a huge IPO as I said. I do not think it will get really oversubscribed that 50 times or 100 times even. I will be really surprised if it gets oversubscribed 4-5 times.
And your overall sense of the market is that it is looking steady and positive? Did I get that right?
AB: Sentiment is positive. I really cannot justify the valuation in the market at this point of time. In fact, I have been suggesting to my clients to sit on cash to a certain extent, at least book and take some profits home because I am a bit sceptical at this point of time. But then as long as the music is on, enjoy it.
PH: I just want to make one point. If you look at some of the large IPOs in the past, Reliance Power had an IPO collection of 7 lakh crores, Coal India had 2.3 lakh crores, Zomato also had about 2.1 lakh. You have seen in the past deals as well that there is a lot of money that can potentially come in.
LIC of course, as Mr Baliga said, is a huge brand. Everyone is aware of it. I think if the issue is priced well, you can see a huge amount of retail savings coming into the capital market as a result of this.
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