The Prospectus in an Initial Public Offer (I.P.O) listing

It is interesting to see a number of people expressing their desire to invest in a given company through an I.P.O of which they have little information of knowledge about like in the Case of the intended listing of Visa in the United States and Safaricom in Kenya. Most investors (I don’t know if the same applies in America), normally rely on their emotions and gut feeling only in making the decision to participate in an I.P.O then afterwards spread the word to their friend creating a huge euphoria for the I.P.O. I don’t deny the role of the publicity agency in creating the hype, much more actually comes from peoples’ personal opinions about the share which leads me to expound the importance of a prospectus in any listing

To avoid buying into company through an I.P.O then regretting later on your bad decision, it is important that you overcome your emotional attachment to the company and its products and rationalize the share offer. In order to do so, you need concrete information on which you shall base your decision upon. Most of this information is contained in the prospectus of the company that intends to list its shares on the stock exchange

The prospectus includes very important information like the historical performance of the company in the previous years, the current owners of the company, the amount of shares that they are offering to the public, what they intend to do with the money after the I.P.O amongst other things. Any prudent investor will take his/her time to go through this information in order to make an informed decision on the amount of shares to take up or even if to participate in the offer. As an investor this are the things to look out for in the prospectus

1.The company performance in the pre-ceding years. This is important for you to develop performance trends and therefore be able to predict its future performance- all factors held constant. This is mainly done by looking at the statements of accounts. The balance sheet is important so as to look at the net book value of the share to determine if the company is overvalued or undervalued (offered at a discount) at the time of the offering. The net book value is arrived at by taking the total assets divided by the total number of shares. It will be interesting to see how safaricom arrived at its value for the share offer. What did it include as part of its assets to reach that price? The cash flow statement shows the company’s ability to offset its debts in the short run thus avoid bankruptcy. We have seen in the past stable companies with huge asset outlays being placed into receivership because it did not have any liquid cash to pay off its debts. Its therefore to observe the investment mix of the company especially the current investments against the long term investments. The profit trading and loss statement shows how the company is using its assets to generate a profit. This statement is important for an investor to determine the rate of return on his investment and probable earnings against his investment in the form of dividends and bonus shares. Safaricom in this respect is a very strong company since a little investment is yielding massive gains

2.The current list of owners. This will help you determine the performance of the company in the future since some directors have a reputation of turning around companies or leading them to huge growth. Observe the ratio of the directors who have the technical expertise in the company’s area of operation against those who don’t have. Also look at the management team and their qualifications. Also establish which owners are offloading their share ownership and why are they doing so, is it to expand the business or to cash in? Normally investors who want to cash in on their ownership raise a number of suspicions to investors because in most cases shares are offered to raise capital for the company’s expansion. A cash in means that the investor is bailing out which is not a good sign. In respect to safaricom shares, it would be good to see what the vendors intend to do with the cash they raise and if it shall be of benefit to the company. Also important in the safaricom issue is to know who are the owners of the mysterious 5% of the company and are they selling off their shares.

3.The general industry trends. This includes the company’s perception of the market. Its market share, the existing competition and the company’s evaluation of the risks that arise from the industry and other sources and how it intends to mitigate these risks. This is important for you as the investor to firstly understand the business the company is involved in and its general business environment. It is on this basis that you will be able to determine the future the company will have in respect to its strengths like market share, its weaknesses like internal wrangling or huge labor force, its opportunities in terms of unexploited markets and its threats like competition, new government regulation and political influences among others. As it stands out, this is safaricom’s greatest strength and what investors are being offered. It is not into its ownership but its future prospects. It is therefore necessary for investors to find out the current worth of the future normally known as the Net Present Value then evaluate the possibility of the company achieving that future value which is a very complex process that involves the evaluation of the risks and the estimation of the probability of the positive occurrence

4.The share allocation criteria and the time table of principle events. This is important especially to observe the share allocation to institutional investors who create the bulk of demand for the company’s share. If they are likely to get full allocation then the prices are not likely to rise after the offer but drop as speculators will offer their shares to no buyer. It is good to get their opinion of the institutional investors and what closely their purchase patterns if possible. The dates of the offer, period of the offer before the closure date, the refund payment date and the listing date are also very important since this dates will affect the amount of money to be raised and help you evaluate the opportunity cost in investing in the companies I.P.O. the opportunity cost in this case refers to the cost forgone if you invested your money in another venture against the expected returns. In the case of the safaricom share, it might just be possible to discover that it makes more prudent sense to purchase other shares whose value have greatly reduced than to buy safaricom shares also the listing date may coincide with other major announcements like other I.P.Os of company’s results thus dampening the demand for the companies shares.

The above items are the basic things that you look for in a prospectus of a company intending to list. It is also very important to try and understand the business that the company is involved in and get information about the company from other sources. Despite the fact that companies go through very rigorous evaluations before listing, a few gaps may exist that might require you to go through in detail of the companies reports to identify any ‘ghosts in the cabinets’. Remember the devil is in the details so if you intend to commit huge sums of money in a companies I.P.O and your risk factor is very high then it is worth the effort.