What Investors Should Consider Before an IPO

Executive Summary

New listings often attract significant attention, driven by media coverage, marketing campaigns and the general excitement surrounding a company's transition to public markets. This attention can make it easy to overlook the more mundane, but essential, work of assessing the substance of an offer. This article sets out a general framework for the questions investors commonly consider before deciding whether to apply for shares in an IPO, drawing on the type of disclosure typically found in an Australian prospectus.

None of the considerations discussed here should be read as advice to invest in any particular offer. Each IPO differs materially in its industry, financial profile and risk characteristics, and investors should always read the relevant prospectus in full and consider their own circumstances, or seek professional advice, before applying.

Why Is the Company Listing?

One of the first questions many investors consider is the underlying rationale for the listing. Companies may seek to list for a range of reasons, including raising new capital to fund growth or reduce debt, providing an exit or partial exit for existing private equity or venture capital owners, or improving liquidity and brand recognition. A prospectus will generally disclose the intended use of proceeds, and reviewing this section closely can help investors understand whether an offer is primarily designed to fund the company's future, or primarily designed to allow existing shareholders to realise value.

Neither rationale is inherently negative, but the mix matters. An offer structured predominantly as vendor selling, where existing shareholders are selling down their holdings rather than the company raising new growth capital, is not automatically a poor investment, but it does warrant closer consideration of why existing, often well-informed, owners are choosing this point to reduce their exposure.

Financial History and Forecasts

A prospectus typically includes several years of historical financial information alongside, in many cases, forecast financial information for the current or following financial year. Investors generally benefit from examining the consistency and quality of historical earnings, the drivers assumed in any forecasts, and whether those assumptions appear reasonable relative to the company's track record and the broader industry environment. The investigating accountant's report, included in most prospectuses, provides an independent review of this financial information and is a useful, if technical, source of additional context.

• Review revenue and margin trends over the historical disclosure period, not just the most recent year.
• Consider whether forecast growth assumptions are consistent with historical performance and sector conditions.
• Examine the balance sheet, including debt levels immediately following the offer.
• Note any related-party transactions or arrangements disclosed in the prospectus.

Escrow, Ownership Structure and Governance

Prospectuses generally disclose whether existing shareholders, including founders, executives and pre-IPO investors, are subject to escrow arrangements restricting their ability to sell shares for a period after listing. Understanding when these escrow periods expire can be relevant to assessing potential future share supply, since a large volume of previously escrowed shares becoming saleable can, in some cases, influence trading dynamics. Governance arrangements, including board composition, independence and remuneration structures, are also typically disclosed and can provide insight into how the company is likely to be overseen as a public entity.

The prospectus is generally the single most information-rich document available to a prospective IPO investor — the marketing campaign surrounding an offer is not a substitute for reading it.

Key Considerations for Investors

• Read the full prospectus, not just the investment highlights summary or media coverage of the offer.
• Assess the balance between new capital raised and vendor selling within the offer structure.
• Compare the implied valuation with listed peers, where reasonably comparable companies exist.
• Consider the size of the position relative to your overall portfolio, given the elevated uncertainty typically associated with newly listed companies.

Conclusion

Assessing an IPO opportunity involves considerably more than gauging market enthusiasm around a new listing. A disciplined review of the prospectus, the use of proceeds, financial history and governance arrangements can help investors form a more grounded view of an offer's merits and risks. This article is general in nature and does not constitute personal financial advice; investors should consider seeking professional guidance suited to their individual circumstances.

Related topics

Information contained within these insights is provided for general information purposes only and does not constitute personal financial advice, an offer or recommendation to acquire or dispose of any financial product. Investors should consider their individual circumstances and obtain appropriate professional advice before making investment decisions.