It's raining IPOs (Initial Public Offers) in the stock market. Zomato IPO which closed for subscription on Friday was oversubscribed 40 times. Digital payment companies, Paytm and Mobikwik have filed for IPOs this year. Other digital names like Flipkart and Ola are in line to take public route as well. Tech start-ups using the IPO route is a first for India, which is generating lot of interest among equity investors. But, experts advise treading with caution, and not falling into the fear of missing out, or what's called the FOMO.
"It is heartening to see the startups being able to raise money in Indian equity markets rather than list overseas. Therefore, the Zomato IPO is no doubt a healthy sign for the Indian stock markets overall. However, retail investors need to be cognizant of the fact that the risks involved in such issues is very different from what they have seen in the past," says Tanusree Banerjee, Co-Head of Research, Equitymaster.
Big and attractive names may not always reap good returns. The frenzy-filled Reliance Power IPO in 2008 was sold out in the first minute of its opening then. The issue price, on back of the strong demand for retail investors was fixed at Rs 430, upper band. The stock rallied for a brief period on the listing day but the stock has, till date, not gone above its listing price. The investors had to incur huge losses. The current price of the stock is Rs 13.
To evaluate IPOs of conventional businesses, investors seek safety in profits and balance sheets. For the tech unicorns you are only betting on future growth. Zomato accumulated losses of over Rs 4,000 crore in the last three years. However, its revenues have grown 50% in the last three years. So, it's the latter that matters more in terms of its future estimates.
Also read: Zomato IPO subscribed 38.25 times on last day, retail portion booked eight times
In case of start-ups, it is not that investors are unaware of the fact that tech startups burn cash in initial years. But they are willing to wait and assign high valuations on the basis of high growth prospects, rather than current profitability. The underlying logic is that this strategy has worked in the case of Amazon, Facebook, Alibaba, Twitter and many others. All these businesses accumulated losses for several years when they grew fast. Eventually they turned profitable. But, the problem, says Banerjee, is that the loss-making streak of these tech unicorns may last longer, much longer, than the retail investors' patience and ability to hold on to the loss making businesses.
Lack of information and no past record is the major concern to invest in an IPO. Unlike the secondary market where buyer and seller have similar level of information, in IPO the seller is generally founder of the company . "Founders tend to have more information than buyer or the applicant. There are idiosyncratic risks while investing in IPOs," says Sorbh Gupta, Fund Manager- Equity, Quantum Mutual Fund. "More often we have seen that just before IPO, companies try to get better price of IPO. Investment bankers advise companies to do thing to inflate growth so they can get better value in primary market. Once the IPO is done after 6 months or 1 year, the growth number returns to normal," he adds. That is also is a risk.
Also read: Paytm files DRHP for Rs 16,600-crore IPO
Retail investors can instead look at the secondary market or diversified equity mutual funds where they find good value and less risk. As per Kaustubh Belapurkar, Director- Research, Morningstar, investors looking to invest in a stock directly should have the ability to be able to do atleast some basic analysis of the company in terms of its fundamentals. Otherwise, most equity investors are better served by investing in well-managed diversified equity funds. "Buying a popular stock purely because of a FOMO (fear of missing out) trade can be counterproductive to your portfolio objectives," he says.
"IPOs are meant for people who have the ability to keep a track and are agile to apply as well as sell. Or for people who understand stock markets and want to keep the stock for long term," says Priti Rathi Gupta, Founder, LXME. "However, in that case, one can buy it even from the exchange (secondary market)," Rathi adds.
But, if you do want to make a FOMO trade in a trending IPO, make sure it's only a very small allocation of your portfolio, says Belapurkar.
Also watch: IPO craze: Why are so many companies going public?