Playing the IPO Market: Knowing Which Indicators To Use for Finding Good IPOs

Francis Gaskins  |

In this week’s interview with Francis Gaskins, President and Editor of, we discuss how investors of different kinds typically participant in IPOs, and what indicators should be viewed closely when examining opportunities. Gaskins has been recognized by major financial media outlets such as Forbes, CNBC, Bloomberg, and many othersas one of the best resources for the IPO industry available today. Gaskins is a highly sought-after expert for his insights and opinions as an IPO analyst. Readers can see his previous weekly interviews with here.

EQ: We’ve discussed how hot the IPO market has been during the first four months of 2013, especially when comparing the numbers from 2012. What are some of the reasons driving this renewed interest in this market?

Gaskins: The general stock market has been in an upswing. When that happens the IPO market is kind of like the tail following the dog, and becomes more active. Conversely, when the general stock market is in a downtrend, then IPO market activity diminishes.

EQ: For investors, especially self-directed investors, investing in IPOs is very different from buying stocks that are already trading on the market. What are some of the main aspects of a company preparing to IPO that you recommend they look at to gauge whether the opportunity has potential?

The best indicator (in general) is rate of growth of top line revenue. Then, is the company generating bottom line profits? Both observations are from the income statement.

Next, we look at how the sector is doing. For example, the housing sector has been strong this year-to-date. And there are some housing companies in the IPO pipeline that may be interesting because the sector is doing well.

Finally, there is a set of metrics we use for ‘compare & contrast’ to see if the company is priced at a discount or at a premium to already public companies in its sector, using the price range midpoint. Investment bankers almost always set a price range, for example $16-$18, before making the final IPO price determination. Income statement metrics include price-to-sales and price-to-earnings. Balance sheet metrics include price-to-book and price-to-tangible book.

This glossary may be helpful:

EQ: What is your opinion on buying stocks on the day of the IPO? Considering the performance of recent IPOs on their first day of trading, is this ever a good idea?

Gaskins: There’s not a general answer to that question.

The nature of the IPO market is that some ‘IPO specialists’ will take everything they can, and then sell it in the first 10 seconds. That category of IPO buyers often use quite a bit of leverage so they have to sell right away. They use the ‘delivery versus payment’ method, which enables the IPO buyer to buy from one firm and sell through another almost simultaneously.

Then we have the institutional buyers who often buy sectors. In other words, if a good quality housing stock IPOs, then those institutional buyers will likely add that company to their portfolio of housing sector stocks. If a company has good fundamentals, sometimes money can be made buying from the ’10 second flippers’ and before the institutions have taken their positions.

And let’s not forget the day traders, who actually trade in and out of IPOs multiple times on the first day.

The classic answer, however, to your question is ‘not a good idea to buy the first day’ -- as in the Facebook disaster, which was driven by emotion and not reason. For the record we said on national tv the night Facebook priced, that FB should be $18 in six to nine months because it was overpriced, based on a rational financial analysis. Nevertheless, a lot of buyers scooped up FB above it’s IPO price of $38 in the first 20 minutes or so. FB dropped to $18 three months after its IPO.

EQ: It seems like we’re seeing more spin-off companies and established names doing IPOs rather than up-and-coming growth companies lately. Is this something you’re noticing?

Gaskins: In this economy there are few real pockets of growth with sustainable growth, and therefore fewer growth companies.

Over the past few years private equity firms have made big investments in companies, companies that can be leveraged with additional debt. By definition, if more debt can be added then top line revenue must be visible or lenders would not be interested. So the established IPO names come mostly from private equity firms seeking liquidity, or from companies doing spin-offs (carve-outs) like Pfizer (PFE) did with Zoetis (ZTS).

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DISCLOSURE: The views and opinions expressed in this article are those of the authors, and do not necessarily represent the views of Readers should not consider statements made by the author as formal recommendations and should consult their financial advisor before making any investment decisions. To read our full disclosure, please go to:

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