IPO watch: story vs valuation what matters the most to you?

Strike when the iron is hot seems to be an unwritten rule of the IPO market. Indian promoters and their angel investors have been following this adage to perfection so far. However, the problem begins when investors start treating IPOs as a surefire recipe for making quick bucks.

Indian promoters collected nearly Rs 30,000 crore of capital in 2020. The overzealous response to some of the recent IPOs such as Mrs Bectors Food, Burger King, Mazagon Dock, Chemcon Speciality and Happiest Minds, amongst others (which got oversubscribed more than 100 times), depicts the overheating of the IPO market and demand for new securities.

The IPO pipeline for 2021 remains strong too with the likes of Zomato, Milkbasket, Nazara Technologies and Lodha Developers amongst others expected to go public this year.

As you can sense, some of the unique businesses which were not accessible to stock market investors so far will suddenly make a beeline for Dalal Street.

When any company goes public, its promoters and angel investors have two options:

One, value their stake reasonably and launch an IPO at a price that leaves some money on the table for investors. If such companies manage to deliver solid financial performance quarter after quarter and demonstrate a record of good governance, the market cap gains can be handsome in future. As against that, if a promoter decides to launch an IPO at extremely rich valuations, the scope for future re-rating blurs.

Easy liquidity conditions make things more complicated. Soon after listing, the gush of liquidity takes debuting stocks to such astronomical levels where their valuations become more expensive than those of respective industry leaders. The moot question is how long are such valuations sustainable?

Take the example of Mrs Bectors Food. It launched an IPO at Rs 288. Soon after its listing, the stock made a high of Rs 620 and is currently revolving in the range of Rs 420 and Rs 460.

Even at this price, the stock commands a P/E multiple of 87, based on Trailing Twelve Month (TTM) earnings. This is 80% more expensive than Britannia Industries’ valuation, although it is the industry leader and demonstrated exceptional growth during the pandemic-hit year.

Valuation deferential: Britannia Industries Vs Mrs Bectors Food

RoIC: Return on Invested Capital
TTM: Trailing Twelve Months
(Source: Ventura Research)

In H1FY21, Britannia’s operating margin was 19.3% against which Mrs Bectors Food reported 16.8% operating margins for the same time period.

Burger King is another example. Despite generating a negative return on invested capital, it commands a rather expensive EV/EBITDA multiple of 58. Are markets looking too much into the future?

Happiest Minds is a slightly different case. The current market price of the stock is approximately 120% higher than its IPO price. It belongs to an industry which is expected to do well going forward, thanks to a potential upswing in the tech spending cycle. But how about it being more expensive than TCS which is the largest Indian IT company? Isn’t it one of the most efficiently run IT companies too?

Valuation deferential: TCS Vs Happiest Minds

RoIC: Return on Invested Capital
TTM: Trailing Twelve Months
(Source: Ventura Research)

Interestingly, Happiest Minds reported an employee attrition rate of 20% as on June 30, 2020, while TCS, according to the latest disclosures, had a modest attrition rate of 7.6%. The difference between the attrition rates of two companies can be quite telling, especially considering that the human resources are considered the biggest assets of IT companies.

Be Fearful When Others Are Greedy and Greedy When Others Are Fearful—Warrant Buffet

At present, many investors seem to be failing to grasp the essence of this invaluable advice. History of India’s IPO market suggests that markets eventually weed out thorns.

Back in 2008, the power sector was considered to be a hot sector.

If you remember, Reliance Power was the climax of the previous multi-year bull market that played out between 2003 and 2008. The Rs 11,500-crore IPO received bids worth ~ Rs 7 lakh crore. The listing gains of nearly 20% disappeared in merely the first 5 minutes of listing and on the day of debut the stock closed 14% below its IPO price for retail investors. The stock never saw its debut-day highs again.

Today platform companies enjoy a similar fanfare. Unfortunately, there aren’t many peers to juxtapose their valuations with for making a comparison. Thus, they are popularly called concept stocks. Make sure you don’t have any misconception about them.

Given the astronomical rise in the market indices and their valuations, investing in IPOs at this juncture without assessing their valuations is just like letting your painting dry under the cloudy sky!

You may also like to read: Are you reading the Q3FY21 report card of IT companies the right way?







  • I agree with your thoughts. But you didn’t discussed the growth prospects which is mainly the reason for expensive valuations. QSR market has huge scope. Happiest mind is in digital IT which again has huge scope. Having said this, nobody can justify the expensive valuations. Greed everywhere. Or is it the case of “fear of missing out”? 🙂

  • Perfect analysis amidst this IPO frenzied overheated market. By the way, you are the only analysts/brokerage house which has given a sane and right advice whereas every other analyst/brokerage house has given a strong thumps up to not only all other IPOs but to this IPO as well.

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