Investing in Initial Public Offerings (I.P.O.s)
The I.P.O. madness of the late '90s has finally slowed down. It's a good thing, too, as a lot of investors lost their shirts by making rash decisions and common mistakes during the dot-com goldrush. To give us some tips on how to get in on the new, slower-paced I.P.O.s that are coming to market, THAT MONEY SHOW invited David Menlow, President of the IPO Financial Network (http://ipofinancial.com). The following is an edited version of the interview conducted by host and managing editor Betsy Karetnick.
Karetnick: Why would an investor want to buy a company that is going public?
Menlow: Companies that are first trying to go public have a story that is usually appealing to investors. It may be a company in a very hot sector, or a company that investors think has a lot of growth potential. As a result, investors buy into a company hoping that it can make their money grow very quickly, as opposed to more established companies that tend to grow slowly.
Karetnick: How can investors research a company this is hitting the public for the first time? The information isn't always easily available.
Menlow: The difficulty is that people must always look at an official prospectus. Within that document, potential investors will learn about the management team, the fundamentals, the company's products, and their prospects for the future. This information is essential for making a good financial decision.
Karetnick: Where do we find a company's financial track record?
Menlow: In today's market, investors are far more critical about profits than they used to be. They are looking at the fundamentals, and they want to see the financials in the prospectus. However, investors will accept a few companies that are not currently making a profit, as long as they show the potential of making money in the near term.
Karetnick: These are risky investments, and not all of us can be a part of them. How do we go about it if we do want to invest in initial public offerings?
Menlow: Most of the I.P.O. horror stories we see involve people who heard about an I.P.O. too late in the curve. Typically, these people have gone into the market to try to buy it from underwriters (like Merrill Lynch or Solomon Smith Barney), and the problem is that the relationships have already been established by the investor with those brokerage firms so they are relegated to the after-market (or buying the stock after it appears on an exchange). At that point, however, the stock price may be elevated by sixty, seventy, or eighty points. If an investor buys in when the stock is so high, they will probably lose money because that elevated price can never sustain itself and will likely collapse under its own weight. An educated buyer has to establish direct relationships with the investment-banking companies, let them know that they want to get in on an I.P.O., and make the best possible deal.
Karetnick: Are there any promising I.P.O.s on the horizon for this fall?
Menlow: There are a number of large companies going public this fall. For instance, Verizon Wireless, Anthem Insurance, and Prudential Financial are some large companies that people know. These I.P.O.s will probably not please most aggressive investors, however, because the investors are looking for the high degree of success and appeal that smaller companies' I.P.O.s can produce.
Karetnick: Can you give us a checklist of mistakes to avoid when shopping for an I.P.O.?
Menlow: Knowledge is power. There are 10 common mistakes people make when investing in an IPO:
- Using only discount brokers, who aren't able to access I.P.O.s fully.
- Not playing secondaries. There are three times as many secondaries coming to market as I.P.O.s.
- Not interviewing or hiring the right broker.
- Not having enough accounts.
- Not knowing the requirements of the I.P.O. broker.
- Not holding onto I.P.O.s long enough to make a profit.
- Not doing any research.
- Waiting too long to place an indication of interest.
- Not establishing a trading plan.
- Not recognizing the power of money.
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