The Long and Short of IPO Investing

IPO, as an investment strategy, has always seen extreme views and opinions. For some, investing in an IPO is a risky strategy, and for some a good strategy. Is it an appropriate strategy or not? To get clarity, it’s important to understand the history, the winners and losers, and the opportunities and challenges around investing in IPOs.

India’s Primary Market, specifically, has become immensely popular among Overseas Investors in addition to domestic investors. IPOs and QIBs account for nearly two-thirds of the over $70 b invested in a decade, according to data from NSDL. In 2022 alone, FPIs invested $3 billion (Rs 24,000 crores) through the primary route as per sources.

In the current year, 73.08 per cent of issues witnessed positive listing. This is the highest in the last 8 eight years and, since 2010, the second highest. 2014 is an exception as there were only 5 IPOs and hence an outlier. It is interesting to note that since 2010 the positive IPO listing has gradually increased (refer to chart 2).

The above data is promising; however, IPO listing is just the beginning. It is worthwhile to see the returns profile of the issues post six months (6m), 12 months (12m), and since listing till date (SLTD).

Since 2010 only 46 per cent, 43.4 per cent; 48.6 per cent (6m,12m, SITD) of issues delivered positive returns post-listing. As time progresses, the chaff is separated from the wheat. Please note (refer to “Detailed Attribution”) from 6m to 12m to SLTD that the outliers ( per cent no of stocks giving extremes -ve returns and +ve returns) on either side i.e. the difference between winners and losers is more pronounced.

But what if, one was to invest in all IPOs equally to date? Would it be a good strategy? The below-appended table answers it all. The returns will be far lesser, not only lesser than indices but also less than the long-term inflation rate of 6 per cent. Refer Table A

However, what if one did detailed initial research about the company and avoided the negative ones? The returns would have been 16.32 per cent XIRR and if one were to find the top quartile, then an astounding 20.36 per cent XIRR. And if one were to miss the top quartile, the returns would drop to 11.34 per cent XIRR.

This again brings us back to the point that detailed initial research and ongoing monitoring are required for IPO investing as the returns profile can be very skewed over the long term.

A detailed investment analysis should consider factors like an understanding of the company’s business strength, growth potential, the purpose of raising capital, utilization of funds, promoters background, industry/sector growth outlook, and other factors vis a vis its peer set which gives it an edge over the competitor, are must.
Although IPO provides an opportunity to buy early and has price uniformity, however, there are a few flags to be watched out for.

An overpriced IPO is one of them, as extreme valuations may imply that the risk and reward of the investment are not favourable at the current price levels. Ratios like Price to Sales and Price to Earnings Price to Earnings Growth, relative to its competitors, can provide insights.

IPO as an exit strategy by promoters and initial investors is a red flag.

Non-growth-related utilization of IPO money like repaying old debts, settling old claims, etc,. and significant promoter stake dilution needs investor attention as there can be several reasons for it, which need to be understood. Well-performing and/or euphoric markets exude over-optimism, and one should tread carefully in such markets.

There is no right or wrong in investing; however, the above historical data suggests that the odds might not be in your favour; however, only a few have seen great success. It is best avoided if one cannot invest time in detailed research.

Happy Investing!

(The author is Head -Family Office, Upwisery Capital Advisors LLP)