Can the start up IPOs be your road to riches?

Mar 21, 2015

In this issue:
» Are there further rate cuts in store?
» What the US Fed should be blamed for...
» Indian Auto limps along
» ...and more!

The rise in the youth population in India is widely considered as a factor favouring India's growth going forward. But this only makes sense if India's youth is gainfully employed. Thus, besides finding jobs, one solution is to encourage entrepreneurship in the country.

We have highlighted in one of our earlier editions of the 5 Minute WrapUp, how the environment in India is not very conducive to encourage more start-ups in the country.

Besides the fact that India is a tough place to do business, the other factor that remains a challenge for start-ups is access to capital to harbor their ambitions of growth. So far, start-ups with a promising business model and growth prospects have managed to find funding from venture capitalists (VCs) and private equity (PE) firms. Most of the e-commerce companies, Flipkart for instance, are classic examples of start-ups that have gone the VC or PE route.

However, the capital market regulator SEBI is now considering coming out with guidelines for such start-ups to access the capital markets through IPOs. As reported in the Economic Times, these new guidelines are likely to come in the next 3-4 months. It appears that a number of e-commerce firms, including start-ups, have been lobbying to obtain relaxation in IPO norms.

Now this is where it gets tricky. No doubt that promising start-ups and fledgling firms should not struggle for want of capital. However, when the question of accessing capital markets comes into play, protecting the interests of investors also becomes extremely important.

We had written earlier this week how the e-commerce player Flipkart is looking to list on the Nasdaq since the IPO norms in its current avatar in India are quite strict when it comes to the listing of unprofitable firms. And Flipkart so far has been unprofitable.

International examples such as Alibaba and Facebook have shown that these companies are much more interested in securing bigger valuations based on future growth potential. In India too, keeping start-ups and e-commerce firms aside, even companies that have been in existence for a longer time have looked to price their IPOs at expensive valuations. Thus, investors need to be cautious.

The good thing is that even though SEBI wants start-ups to get better access to capital, it appears to be quite clear that shareholders' interest should not be relaxed. More clarity on this will emerge when the regulator comes out with these guidelines.

But investors need to do their homework as well. They should ensure that they do not get lured by robust growth in earnings projected by these companies. Once again the business model will have to be studied and IPOs that are looking at bigger valuations should certainly be avoided. Start-ups certainly need money. But they need to have a creditable business plan, properly give an idea of how they intend to utilize these proceeds and the aim has to be to achieve profits. Those looking at only 'big bang' listings should not be touched with a ten foot pole by investors.

Will you consider investing in the IPOs of start-ups once SEBI comes out with the guidelines? Let us know your comments or share your views in the Equitymaster Club.

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With inflation showing signs of slowing, the Reserve Bank of India cut the repo rate by 0.25% in both January and March this year. Not surprisingly, the stock markets gave the rate cuts a thumbs-up. More so to the implicit prospect of a change in rate cycle, rather than the rate cuts themselves. This has also led to my cyclical stocks, whose business is dependent on the cost of capital, to see a sharp rise in their stock prices. Indeed, the market has been banking on and has built in a strong expectation of further rates cuts. But it might just be in for a disappointment.

Recently out inflation numbers for the month of February based on the consumer price index came in at 5.37%. This came on the back of a reading of 5.19% in the previous month. There are now expectations of inflation further inching upwards in March, more so since fuel prices were raised on 28 February. Further, unseasonal rains in north India could lead to an upward pressure on food prices. This could provide more fuel for inflation.

While there can be no certainty about exactly how things will pan out in the days to come, it is a good idea to keep the prospect of higher inflation and thus a continuance of tight monetary policy in mind at a time when the crowd seems to be quite gung ho about a fall in interest rates going forward.

  Chart of the day
While FY13 and FY14 were extremely tough years for the Indian auto industry, some sort of a gradual recovery was seen in FY15. Even though the overall CV segment saw a dip in volumes, the segment that grew the best was medium & heavy commercial vehicles (MHCVs) as volumes were up 15% YoY during this period. This is not surprising considering the segment was the worst performer in both FY13 and FY14. The fortunes of the MHCV segment are closely linked to that of the economy. Thus, a volume pick up in this space means that a gradual economic recovery is taking place. The performance of the other segments remained tepid especially that of passenger vehicles. However, companies in this space are looking to bolster volumes through new product volumes. They are also hoping that more rate cuts will lure buyers but whether that scenario plays out remains to be seen.

Indian Auto sees some recovery in FY15
* Passenger Vehicles, **Commercial Vehicles

If you were to sit and make a list of people who have criticized Fed for its near zero policy you may end up coming out with a yellow pages directory for it. Of late, there has been a new addition making it a never ending list with a long tail. A gentleman named David Stockman, former Reagon advisor, is of the view that the current financial situation is dangerous than ever. And it is Fed which is to be blamed for it. Though the US stock markets are within 3% of their record high there is disconnect between markets and the economy. It is easy money that has fuelled the stock prices rather than actual economic recovery. And if sooner or later such doses of insulin (read liquidity) that have kept a diabetic economy afloat do not come to end the US may end up being in a soup.

For one, currently, the inflation may be sliding as the confidence levels are low and consumers are not willing to spend. But once economy recovers the Fed may have to rethink its strategy and raise rates. And this is what Janet Yellen indicated in its latest monetary policy too. If that happens the era of easy money would come to an end and lead to excess volatility in emerging markets. It would be interesting to see how well will India cope up with such a move.

Barring India, all the major global stock markets ended the week in the green. The US stock market hit new highs, on back of positive comments from Federal Reserve Chair, Janett Yellen. Janett indicated that central bank will raise interest rates more slowly than planned. This event had positive impact on the global markets too.

China was the biggest gainer for the week (up 7.2%). The markets closed above 3,600 levels, highest in last seven years. The Japan markets hit 15-year high levels as Yen softened against the US dollar. Among the European markets, the UK stock markets touched their life-time high levels breaching 7K levels. Lower interest rates have revived hopes of breakthrough in Greek debt crisis which is propelling rally in European stocks.

The Indian stock markets ended the week in red. The downward trend in the market pulled down the indices to one month lower levels. While buying activity was witnessed post Fed's comments, however Indian indices later lost the streak and slipped into red. Among the sectoral indices realty and power indices witnessed maximum selling pressure. Stocks from Pharma and IT were in demand.

Performance during the week ended March 20, 2015
Source: Yahoo Finance

 Weekend investing mantra
"Everyone has the brainpower to follow the stock market. If you made it through fifth-grade math, you can do it." - Peter Lynch

This edition of The 5 Minute WrapUp is authored by Radhika Pandit.

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3 Responses to "Can the start up IPOs be your road to riches?"

Autar krishen koul

Mar 21, 2015

it is very risky for an investor to subscribe to start ups like Flipkart or mantra which have not earned any profits till date and are going by future projections only. Only Venture Caplists can subscribe to such ipos.Retail investor should be very cautious Also how much relaxation can SEBI give.They shoud go by rules.


R K Sachdeva

Mar 21, 2015

It has been observed that promoters sell equity in their company when market is most favourable to give them the best price. conversely, they make preferencial allotment to themselves when the price is lowest. Promoters have access to best information and expertise which retail investors don't have. Ideally, retail investors should buy when promoters are buying and sell when promoters are selling. Start up IPOs may, generally, not be a good investment option for retail investors.



Mar 21, 2015

My point is why are we trying to say that investors are idiots and they will burn their fingers if SEBI does not do this or do that and so on....The very nature of equities and capital markets is 'Risk' and 'Reward'...If investors are to get rewards, let them be exposed to risk too. This 'socialist' mentality does not gel well with the 'capitalist' society that we are all becoming...

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