American Consequences - August 2017


Who knows best? The danger of being wrong is that you buy an offering when the company is firing on all cylinders and things can't get any better... in which case, they can only get worse.

WHO GETS THE MONEY? The whole point of an IPO is to raise money. But who gets the cash? Sometimes it's the founding shareholders, who are usually management. If these insiders are selling, what does it say about danglethe company's prospects? Nothing good. Of course, that's not entirely fair. The founding shareholders of a company may be looking to take some cash off the table after spending their time and money building the business. They may want to diversify their assets – or maybe buy a yacht. However, it's much more encouraging if the proceeds are used for the company's further development and expansion. And in any case, the founding shareholders should hold on to a significant stake so that they still have skin in the game. WHY NOW? A company may sell shares because it needs funding to grow... Or company insiders may believe they're selling at a point of maximum optimism, which means they'll get a better price (from a valuation perspective). Like everyone else, the sellers want to "sell high." Meanwhile, investors buying into an IPO are trying to "buy low," betting that the company's growth prospects are still strong. 2.



If it isn't, let's face it: You're not investing – you're speculating. That doesn't mean you shouldn't buy shares, but it does suggest that the offering is riskier. And you should account for that higher level of risk accordingly.



The shareholders who are selling want to sell at a high valuation level (based on measures like the price-to-earnings ratio, for example). Investors buying into the IPO, meanwhile, want a low valuation so that the share price has room to rise. The big question – as with any valuation exercise – is what the stock price is being compared with. The people selling the IPO will point to companies that trade at high valuations – so that the shares they are selling will appear cheap by comparison. The shares of companies that are direct competitors in the same country and sector, with a similar growth rate, are generally the best ones to look at.

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