Why should I invest in an IPO?
Companies choose to make an Initial Public Offering (IPO) mainly to raise funds for future growth but sometimes it can also be to increase the awareness or stature of the company.
This is often to the tune of hundreds of millions of pounds – so they have to have a solid, long-term plan in place to satisfy the requirements of the exchange they are proposing to list on (e.g. the London Stock Exchange) as well as the UKLA (UK Listing Authority). The company will also want to convince potential investors that they are a viable investment opportunity to consider.
An IPO is a process which enables a company’s shares to be subsequently bought and sold by members of the public via a trading exchange such as the London Stock Exchange (LSE). As a buyer of a newly-listed company’s stock, you’ll be among the first people to have the opportunity to invest in that company. Many investors like to participate in IPOs as the initial share price can often be good value.
An IPO is a process which enables a company’s shares to be subsequently bought and sold by members of the public
But there is also an equal chance of disappointment. The flipside of all the excitement and hope is that some IPOs do not deliver in line with expectations, leaving new shareholders out of pocket. However, investing in a new equity in particular can see volatile trading (up and down) in the early days immediately after it has listed, before the prices levels out at a range that the market deems appropriate for it.
Potential equity flotations (IPOs are also described as a company “floating” on the stock exchange) prices are likely to be quoted in a range, say, between 240 and 280 pence, for example. However, the other asset IPOs are usually quoted at a fixed price (e.g. investment trusts, REITs and retail bonds), often around 100p. The company ideally wants to raise as much money as possible from the shares being issued in the IPO. Where there is a range, floating at the upper end suggests confidence in the shares among investors – the lower end suggests a little more uncertainty.
Reasons to invest in an IPO:
- Investing in an IPO gives you an opportunity to invest in a business at a relatively early stage.
- Equally, long-established, mature businesses, which had previously chosen to remain privately owned for any number of reasons, can decide to float, giving investors the chance to invest in a well-established company.
- Education - you will learn a lot about the company and sector when looking into a potential IPO investment. Listing the companies’ shares publicly require high levels of disclosure, providing assurance that the business is transparent and adhering to the requirements of a stock exchange and the UKLA. A company listing must produce a prospectus which offers up valuable information about the company.
- Founder-led performance. The growing trend for IPOs to remain Founder-led. Founder-led businesses tend to perform better. This tendency is more common in IPOs; 30 per cent of the companies listed globally over the last five years are led by their founders. In those cases where track records are limited, the role and effectiveness of business leaders is often judged by intuition more than analysis.
Reasons to hold back:
- Flotations are surrounded by excitement and, as a result, companies can be overvalued at the beginning and fail to perform in line with expectations. Manias and bubbles, like the tech boom have wiped billions off IPO share prices.
- Short-term investors and traders look to “stag” IPO positions, which means selling them quickly after buying and making an initial gain. This can cause the share price to yo-yo in early trading.
- A lack of understanding. If you are tempted but haven’t done your own research or don’t feel you know enough about the sector or general market conditions, think carefully. Some stocks are cyclical in nature, for example, property; some are more exposed to currency fluctuations than others, some more vulnerable to policy or regulatory changes. Knowledge of the wider market will help you decide whether to commit, and how much to commit.
December 2017