What you should know before investing in IPO’s

Do you understand the company?

This is true for any investment and with an IPO there is less information to look at than established companies, so you need to read the IPO prospectus, which is not the easiest document to read but necessary. You should be able to explain to anyone easily what the company does and how it makes money.

Management

Management is a good indicator of how a company will perform. Smaller IPOs especially rely on a few key people to steer the company. Check what they have done in the past and if they have the required skill sets to make the company successful, as opposed to relying too heavily on a founder.

Ownership

How much do the CEO and management have invested in the company? The more their financial interests are aligned with the company’s performance the better.

Also look at the pay structures. Do management have long-term pay incentives or options based on performance metrics and are their shares held in escrow? Meaning they cannot sell them on market for a period of time.

Follow the money

Is the company raising new equity capital to finance future growth? Or is the money going to existing shareholders who are selling out? IPOs where the money goes to the company to finance growth and expansion are better future investments than IPOs where the money goes to the existing shareholders who are selling out of the business.

Don’t buy into promotional companies

Promotional companies are formed to develop new products, exploit new technology markets, or discover minerals or some other kind of natural resource.

These companies can offer great rewards, but they are also hard to value.

Investors sometimes feel there is a need to get in on the ground floor, but there are always opportunities in share markets and you could spend your time looking at established companies that have all the major functions operating; such as sales, production, management teamwork, and the other aspects of the company to make an informed decision.

The Broker

Larger brokers usually handle larger floats that are less risky. Smaller brokers handle more risky floats. The higher the fee, the riskier the broker thinks the float is. 4 percent or below is generally okay, but more than that would tend to indicate a risky float.

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