Secondary market in equity is in the midst of a historic time period. In such a scenario it is but natural for the euphoria to pass on to the primary market. We have more and more companies coming out with IPOs or additional offers. And predictably enough, these issues have generated huge interest amongst the investors and raised thousands of crores. Practically all such issues have been hugely oversubscribed. And most of them have given huge listing gains to the investors.
One good thing about the IPO market vis-à-vis the earlier times has been that most of them have been from good companies and at reasonable prices. This trend, however, seems to be tapering off and we are increasingly seeing public issues from the relatively not-so-good or known companies and at fairly stretched prices.
Therefore, it becomes necessary for the investors to become cautious and be more selective about their investments in IPOs.
The four critical factors which need to studied in an offer document when making an investment decision are Promoter, Performance, Prospects and Price.
Check promoter standing
This by far is the most important factor in any investment decision. A good promoter or management team is important for any business success, especially over long periods. While businesses may have their ups and downs, a good management will take all necessary steps to ensure profitable performance. Secondly, they would be constantly looking at new business opportunities, thereby ensuring regular growth in the company. Thirdly, we are reasonably certain that the company money will not be deliberately misused or siphoned off to the detriment of the shareholders.
Therefore, look at the promoter’s background, the experience he has in the industry, the performance of the other companies promoted by him, his track record, investor complaints etc. Read the risk factors very carefully especially those pertaining to the promoter/management. Check for any serious litigation against the promoter or the company. See whether the company is a defaulter to the banks/FIs and the reason thereof.
Study company performance
The share price is the reflection of the operational performance of the company. Poor numbers say the sales, profit, EPS etc. would mean poor performance on the stock exchange. Therefore, it is important that the company has a track record of good operational performance.
Look for any window dressing. Are the numbers in line with the similar companies in the industry? Is there any sudden improvement in the numbers just before the issue, without any justifiable reasons?
Also look at the performance of the group companies and the inter-company transaction within the group. Ensure that there are no dubious transactions. Look at the loans given to group companies. Are they paying reasonable interest? Is the loan likely to be repaid?
Understand future prospects
The future prospects of the Company and the industry would play an important role in the performance of the scrip on the stock exchange.
Check the objects. How will they impact the future prospects? How will the funds raised be utilised? Will it additionally benefit the company? Is the money being raised for a new project, which will add to the bottomline of the company?
If its’ an offer-for-sale, it means the existing shareholders are selling a part of their stake in the Company. The amounts raised from the issue will not go to the Company. Therefore, the Company will not benefit from an offer for sale. If the purpose of the issue is to list the company on the stock exchange and the 4 Ps are positive, then one can consider investing.
Look at the price
Finally of course every product/scrip has a right price based on its’ fundamentals and industry prospects. Even if the above 3 Ps were favourable, a high price is likely to reduce the prospects of appreciation at the exchange, thereby defeating your purpose of investing.
Look at the average industry PE and the company’s EPS and try and estimate the fair price. Compare this with the issue price to see if it is undervalued or overvalued. Buy value nor price. A issues which are overvalued. Such issues tend to quote below issue price over a period of time and it may be prudent to enter then, than at the IPO stage.
For follow-on issues the price is more or less known. Therefore, there may not be much listing gain or loss. Again look for a fair valued or undervalued scrip.
A little time spent in reading the offer document and analysing the IPO on the above factors will help you to make right investment decisions and prevent you from ending-up holding a dud stock.
Sanjeev Nanda's Blog 
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