An IPO or Initial Public Offering refers to one type of public offering where the shares in a company are sold to the general public on a security exchange for the first time. So, it is the first sale of stock by a company to the public. A prospectus with reference to an IPO is a report prepared by a company which is required by and filed with the Securities and Exchange Commission or some other appropriate authority that provides details about an investment offering for sale to the public. It should contain every fact and provide a glimpse that an investor needs to make an informed investment decision. It must give the reasons for the IPO, how the company has planned to use the capital raised by IPO, risk involved in the business. It is a lengthy wordy document which can be confusing to someone unfamiliar with the fundamentals and the terminology. Prospectus is a legal declaration and must meet transparency standards.
An IPO Prospectus is divided in nine sections. The sections include the details like the following;
- General Details;
- Risk Factors;
- Introduction to the Business;
- About the Issuer Company: Business & Offer Details;
- Financial Information;
- Legal and other Information;
- Issue Related Information;
- Main Provisions of the Article of Association of the Company; and
- Other Information.
How to Read an IPO Prospectus
Basics Points To Consider
First you should start with the introduction on the company that speaks about its business. You must understand the company’s operation and how it makes money.
Check whether the company has planned to list the issue. A good scrip is always listed in major stock exchanges.
Check how big the issue is and the price band of the issue. ‘Price band’ is the issue price with a low and high range that the company expects to get through IPO.
Understand Risks Carefully Before You Make Your Final Decision
Read about the competitive landscape and try to realize potential threats from its rivals and market changes.
Once you have learned about the competition and rivals, do your own research and calculate future risks. Always remember, history is not a definite guide to the future.
Check whether any legal proceeding is pending against the company. Has the company maintained enough financial provision to safeguard itself from such potential threats?
Read Financials Section Of Company Carefully
View the financial section to review recent financial performance. Check whether projected figures are achievable within the range of the company’s capability. Check the name of key personalities, directors, name of the auditor who has signed at the end of the report.
Determine some key ratios on profitability and liquidity and compare them with the leaders and best performers within the industry.
If the company has not yet started its production, how long will it take to commence real business? Is there any lock-in period for your investment?
Pay close attention to margins and trends in revenue growth. Check the strength of the balance sheet– how much cash the company has against debt. Review the cash flow statement to determine how the company will generates considerable free cash flow to pay dividends.
Tips to Read an IPO Prospectus
- Check where the words like “believe”, “estimate”, “plan”, “expect” and other similar expressions with forward looking statements have been used. There is every possibility that the actual results may differ in future. They are all projections; there is no guarantee that the company will meet all or even any of its targets.
- If anywhere it is stated “…risks for the company include” or “unpredictable or changing business model” or other similar statements, there is no guarantee that the company will be able to manage such risks.
- If the Prospectus says anywhere…….” It may incur substantial operating losses for the near future and that may increase from the current level……..” it means company is losing money and will continue to do so and the growth rate is close to negative.
- If the Prospectus says anywhere…….” It may incur substantial operating losses for the near future that may increase from the current level……..” it means company is losing money and will continue to do so and the growth rate is close to negative.
- If the Prospectus says…” the market is comparatively new, fast evolving and extremely competitive……” it means the company will operate in a highly competitive market.