The landscape for initial public offerings (IPOs) looks more encouraging today than it has at any time in the last 10 years. I'm not talking about the volume of offerings; few IPOs are reaching the market right now. I'm talking about something much more important: the quality of the offerings.
Most of today's IPOs have viable business models (a novelty compared to the 1990s), growing revenue, and net profits. On top of this, most are debuting at reasonable valuations. So, what's going on? Over the last three years, many factors have combined to make today's IPOs attractive:
- After a three-year bear market that nearly silenced venture capitalists, young companies that were able to survive the downturn and emerge strong enough to go public are likely to be exceptional, and are certainly battle-tested.
- With the IPO market still deep in the doldrums (volume of offerings is at a 30-year low), it takes an especially promising company to generate enough interest to launch a new issue.
- Companies that have grown sales and profits the last few years in the bad economy are more likely to grow even stronger in an improved environment, but they're still being valued based on recent results.
- Investor skepticism and fear remain heightened, resulting in company valuations that are much more reasonable than recent years. Recent market conditions are simply forcing IPOs to debut at levels that present better opportunities.
- Today's young companies are less likely to have accounting skeletons in their closets, having been reared during a time of reform.
- Several of this year's IPOs are more mature companies (unlike recent years) -- they're still growing, but they have years of experience.
- Finally, it's just nice to see new names come public -- they seem untainted by the corporate ugliness of the last few years.
Of the many factors making IPOs attractive today, those that should interest investors most are the strengths of the businesses and the valuations being granted. Many of these IPOs are being priced at $150 million to $400 million, and although risks are higher at young companies, these could prove to be low starting prices for some.
Realizing there's potential in today's new issues (10 companies went public the first half of 2003 and nine are priced higher today), investors are pushing prices up like a dolphin nudging a ball in the air (can the ball stay up?) Consider recent IPO performances, Flipper:
Company IPO Recent Change Dick's SportingAll of these except Dick's Sporting Goods went public this year. I included Dick's, which went public last fall, because Matt Richey recently analyzed the company (part one and part two), and it's a great example of a profitable operation going public at an extremely reasonable price.
(NYSE:DKS)$12 $37 208%iPayment (NASDAQ:IPMT)16 26 62%FormFactor (NASDAQ:FORM)14 18.50 32%American Fi. Rlty (NYSE:AFR)12.5 15 20%Maguire Prop. (NYSE:MPG)19 20 5%Axis Cap. Holdings (NYSE:AXS)22 27 23%Molina Healthcare (NYSE:MOH)17.5 23 31%Jefferson Banc. (NASDAQ:JFBI)10 12.5 25%Digital Theater (NASDAQ:DTSI)17 23 35%InterVideo (NASDAQ:IVII)$11-$13 Debuts Today
(Talk about InterVideo)
Last week, we introduced Digital Theater Systems ("A Sweet-Sounding IPO"), another company with healthy potential debuting at a reasonable price. Other companies on the list are well worth your consideration, so next week I'll start highlighting the few I find most attractive. (Given the list, you could start looking now.)
One caveat with nearly all these IPOs: The returns above aren't typical of what you could have achieved from day one, because many of the stocks opened higher than the offer price. Digital Theater, for example, priced its IPO at $17, but the lowest it traded on day one was $19.50. It closed that day around $24, the best-performing debut in more than a year.
The search for a worthy IPO
Before you move your brokerage account into all cash and prepare to buy IPOs the rest of the year (the second-half of 2003 is, in fact, expected to be strong for IPOs -- but now I'm talking volume, as we can't judge quality yet), let me douse your enthusiasm with some cold reality. Most IPOs represent above-average risk and only a small minority will be long-term market outperformers.
As an investor, you need to evaluate every IPO the same way you would a company that has traded for years: What are its competitive advantages? What is its earnings power? How much free cash flow might it generate? What price would you be paying for it? And you're going to find that most will not appear worth buying. In fact, I've only bought and held one IPO in my investing life -- eBay
Were it to go public, The Motley Fool would have to be Nasdaq: FOOL. For now, it just has a public disclosure policy. As you just saw, Jeff owns shares of eBay. He doesn't own any of these IPOs -- yet.
More from The Motley Fool
What Would Happen if Your Car Could Read Your Mind?
If it’s up to Nissan, we may soon find out.
How Axon Enterprise Can Become a Home Run Stock in 2018
If the taser and body camera company's management can get its finances in sync with its growth, this laggard could rapidly become a winning stock for investors.
3 Reasons We're Sick and Tired of Bitcoin
It's time we took bitcoin off of its pedestal and paid attention to other cryptocurrencies.