he question I am most frequently asked these days is not: "How are you?" but "Are you buying any IPOs?"
Frankly, I don't think many of them even know what an IPO is.
In case you don't, it is the acronym given to an Initial Public Offering. Basically, the first time a company decides to open its shares to the public and have them listed on the stock exchange.
I remember it being a household term in 1995, when a few fly-by-night operators took advantage of a booming stock market and fleeced the poor investor.
We have come full circle. The IPO frenzy has caught on.
Which brings us to the question: what's so great about investing in an IPO?
1. Mind-boggling returns!
When a company comes out with an IPO, it will state a particular price for which it will sell its shares. This is called the offer price. When it gets listed on the stock exchange, it will trade for another price. This is called the listed price.
Some investors buy IPOs with the sole intention of selling when it is listed. Because that is when the share price shoots up and they make a packet.
True, almost 90% of the companies that came up with their IPOs in 2004 gave returns right up to 380% (you read that right) after listing till date.
Let's say you bought 1,000 shares at the offer price of Rs 19. So all you invested in India Bulls was a paltry Rs 19,000. The price on February 17, 2005 was Rs 100. Had you sold, you would have landed yourself Rs 81,000!
Dwarikesh Sugar came out with an IPO in November 2004 and touched Rs 182 (up from an issue price of Rs 65). That translates into a return of 180%.
Bharati Shipyard came out with an IPO in December 2004 for Rs 66 and went up to Rs 159 when listed, giving a return of 140%.
This is what selecting and investing in a right IPO could do to your returns.
2. Not always though
Impressed? But don't be under the impression that all IPOs list at a substantial premium to their offer price. Or that over-subscription of an issue (more application for shares than those that were offered), by a particular multiple is a solid indicator of returns to be made.
Almost 90% of the companies that came up with their IPOs in 2004 gave phenomenal returns after listing.
But what about the other 10%? These companies listed with a whimper in the markets, despite the over-subscription multiple.
Then there are some that gave a return of only 10 to 15% on listing.
And some IPOs are quoting below their offer price after a gap of one year.
Though most IPO stocks listed in 2004 are trading above their issue price, stocks like IBP (down 7%), MSK projects (down 2.5%), Deccan Chronicle (down 9.5%) and Sah Petroleum (down 23.29%), are trading at a discount.
Lesson to be learnt: investing in IPOs is not always a win-all situation.
For reasons like these, investors need to undertake their own due diligence before investing in IPO offers.
3. The retail investor gets the raw deal
Every IPO has a fixed number of shares meant for Qualified Institutional Buyers (domestic and foreign financial institutions), retail investors, high net worth individuals and company employees. The shares are allotted amongst these categories of people.
QIBs are not obliged to pay the entire amount when they bid for shares. This is very discriminatory when you realise that the retail investors have to shell out the entire amount upfront.
The rationale is, the retail investor will be allotted at least 100 shares if he bids for 1,000. But experience has shown us that a investors who have applied have never really got an allotment.
Investors need to find out details of over-subscription in the retail segment of the offer. That would give the real demand for the stock from the retail investors in the market when the issue is listed.
4. The retail investor falls for the ploy
When was the last time you heard that a company's IPO was not fully subscribed (takers for all the shares with none going a-begging)? Not for ages, I'm sure.
One reason why most companies quote at an unreasonable premium on listing is because of the hype and artificial demand created around the stock.
You will see advertisements on television, billboards, newspapers and web sites. Your agents who sell you mutual fund units and other shares call you and tell you what a great offer it is.
The result: it is almost normal in today's frenzied times for an IPO to get over-subscribed by at least five times the number of shares on offer.
This creates an artificial demand for the stock at the IPO stage. If an IPO offer gets subscribed 10 times, that means the demand for the shares far exceeds the supply.
The investors who fail to get these shares bid for as soon as the stock opens for listing, when the price is high because of the demand. Later on, it could well be that the share price begins to fall and the investor loses out.
Where do you draw the line?
There always will be someone who will tell you how much more they made by just hanging on. And there will be those who will inform you that they were better off dumping their stock on listing.
Instead of sitting on the horns of such dilemmas, make your own decision.
Set yourself a return. As soon as the stock reaches that magic figure, sell. Be it on listing, a few months later or a year later.
Finally, invest in a stock if you believe in the company. Not just because it is an IPO.
