Investing in Upcoming IPOs in 2023? This Single Factor Could Help You Decide

Shark Tank Season 2 is here... with a little more drama, spice and learnings.

I hope you are watching it too...as it will give you insights into investing, in an entertaining manner.

I would like to share one.

In a recent episode, one of the sharks - Namita Thapar, asked the founder a very pertinent question - How was the company valued in the last funding round?

It was followed by: What has happened since that round until today for the business to deserve a marked up valuation?

The answer was less than satisfactory. And within minutes, the valuations and logic suggested by the founder were ripped apart.

I hope the investors in upcoming IPOs in 2023 are taking note of that.

Let's apply this direction of reasoning to Mamaearth IPO - the latest new age business.

This home grown venture, the founder of which was coincidentally one of the sharks in season 1, is asking for a valuation of Rs 240 bn (US$ 3 bn).

As Aditya shared a few days ago, on conventional valuation metrics such as price to sales and price to earnings - 26 x and 1,714x respectively, Mamaearth's IPO is defying gravity.

But let's assume there is something special about this business, beyond the grasp of a retail investor, that the other established FMCG companies lack.

In this case, it would help to know what sophisticated investors saw in this business, and were willing to pay for that 'X factor'.

As per Crunchbase, Mamaearth has been through eight funding rounds. The latest round (before IPO) was announced in September 2022 - an angel round for US$759,000. However, I could not find any public information on the valuation in that round.

What I could gather was that the company was valued at US$1.2 bn in January 2022, the crazy times when the capital was cheap. It involved investment from some sophisticated investors, including the US based Sequoia group.

At the IPO valuation it is seeking, the jump has been 2.5x in one year.

Here's what the founders of Mamaearth have to say to this:

• In our DRHP as is the standard practice there is no mention of valuation. Valuation discovery is a process which will take place over time as we get into deeper conversations with investor community. We have not quoted or subscribe to the valuation numbers which are getting mentioned in various posts on social media. We have built this company and our brands with a lot of love, the same way we have raised our children.

Now that's not fair. I believe something needs to be done to make the mention of valuation mandatory in the DRHP.

The sharks for sure would not expect and accept such reasoning (or the lack of it) from the founders who pitch their businesses.

So why should you as a retail investor get carried away?

By the way, I'm not cherry-picking. This is a common feature in almost all IPOs.

For instance, pre-IPO, Zomato was valued at US$5.4 bn in a funding round in February 2021.

In the IPO filed in April 2021, it sought a valuation of US$8 bn, a 48% jump in just 2 months.

No wonder than within a short time, the likes of Paytm and Zomato have been beaten down.

When the lock in period ended in 2022, the pre-IPO shareholders in these stocks exited even after an over 60% correction, revealing the real value (or the lack of it).

I hope retail investors have smartened and will remember the lessons.

Remember that most of these IPOs are just a vehicle for insiders to exit, fancily termed as 'Offer for Sale'. Insiders cash out and outsiders end up holding empty bags.

As Warren Buffett said...

• It's almost a mathematical impossibility to imagine that, out of the thousands of things for sale on a given day, the most attractively priced is the one being sold by a knowledgeable seller (company insiders) to a less-knowledgeable buyer (investors).

I would rather be interested in businesses where the insiders are buying their own stock, than in the ones where there are cashing out.

Quoting another legendary investor Peter Lynch:

• Insiders might sell their shares for any number of reasons, but they buy them for only one: they think the price will rise.

Of all the stakeholders, it is the promoters who know the most about their businesses and its future potential. If they are willing to part with their personal money to buy stocks from open market, there is good possibility they believe the stock is undervalued, and will gain in the future.

Unlike tips and IPO hype that you come across on the social media that could be just a front running exercise, a promoter is invested in the business for the long haul.

Keeping a track of what they do with the stocks of the companies they own could give you interesting insights about the business.

In fact, I must say that for quite a few of my recommendations in Hidden Treasure that have done well, that was the starting point to screen stocks.

By the way, unlike in the case of an IPO, where it's almost an impossibility to find the valuations in the latest round in 400 odd page document, the information on insider buying in public stocks is surprisingly easily accessible to all.

You can see how many shares the insiders have bought, when they have bought and the price at which they have bought.

In the video below, I have illustrated how to get access to this information and use it for stock picking.

If you still find yourself gravitating towards companies that want to raise funds, here is another, and in my view better idea.

I would recommend you to track QIBs and QIPs i.e. Qualified institutional placements and qualified institutional buyers instead.

QIP, or qualified institutional placement, is a fundraising mechanism. Herein, a company which is already listed on exchanges, raises capital from the domestic markets by issuing equity shares or securities such as debentures that could be converted into equity.

QIPs were allowed and introduced by regulators so that Indian companies to not have to depend too much on foreign money (through global or American depository receipts) when they need to raise money.

Unlike an IPO, the people who participate in this offer are not the general public. The only parties eligible to purchase is a select group of persons, called Qualified Institutional Buyers or QIBs. These are accredited institutional investors, as defined by the market regulator.

So why would a company choose to go via QIP instead of let's say, raising money through an FPO or follow on public offer.

Well, QIPs is a quick way to raise capital when a company needs external funds for growth and running the business. In comparison, other modes of raising capital, such as FPO, could be time consuming, costly and may require a lot of procedures and guidelines to be followed.

As for QIP investors, they may choose this way to invest as they are likely to get a stake at a discount under QIP, as against buying shares in the open market.

The maximum discount that the regulator allows is 5% on the floor price of the issue. The floor price itself is decided as per a pricing formula that takes into consideration average weekly high and low preceding in two weeks and six weeks of the relevant date. The maximum discount on the issue price is 5% for QIBs.

As a retail investor, you should keep in mind that QIP will lead to increased base of equity shares... and to that extent could lead to some earnings dilution.

While following QIBs does not guarantee a gain, but as the investors are experienced and sophisticated, a good demand for QIP suggests that they see value in the business at QIP issue price.

One can assess this demand from the discount or premium offered on QIP from the issue price. If the discount is huge, it suggests a weak demand for the issue.

If there is a premium, it suggests confidence of institutional buyers at a given price in the business.

This does not mean that you should blindly follow these investors and buy such stocks. But it can indeed be a good starting point to select stocks.

Especially in a scenario when markets correct. If you indeed find a stock that looks good on fundamentals, there is a chance that you could enter these stocks at a price lower than what smart investors paid during market downcycles.

Wish you a all a very rewarding investing experience in 2023!

Warm regards,


Richa Agarwal
Editor and Research Analyst, Hidden Treasure