Despite the global wall of worry over the last two years, the Indian equity markets stood resilient, outperforming many of its emerging market peers. Consequently, Indian markets witnessed a great number of IPOs over the past two years, buoyed by the investor faith in India’s growth story. Investors put up Rs. 3.6 lakh crores for five IPOs last week alone. As a result, many investors are experiencing FOMO – the Fear Of Missing Out – from IPO investing. This trend poses the question – should one invest in IPO companies?

While IPOs can prove to be a good entry point, they also come with substantial risk. In our opinion, IPOs come in waves – some IPO investments are good, some are bad and some can get ugly. When a few IPOs succeed, more promoters try their luck as the market sentiment is optimistic. Although the underlying businesses may appear to be strong on the surface, it is essential to dive deeper and identify the optimal IPO companies for wealth creation. Thus, it is prudent to have a selective approach to IPOs.

Snapshot: Returns & Earnings

As seen in Figure 1, nearly a fourth of the companies with IPOs in the last ten years have not appreciated, i.e., their returns are negative. ~20% of the companies have underperformed the benchmark with annualized returns of less than 10%. To the contrary, more than a third of the co­mpanies have exhibited great annualized stock returns of more than 20%. Hence, subscribing to IPOs due to FOMO is as good as flipping a coin. Rather, it is better to have a structured approach to IPOs to increase the chances of being successful.

Upon evaluating the earnings trends of these companies, this performance gap between IPO companies becomes less surprising. As depicted in Figure 2, more than a third of the IPO companies have delivered subdued earnings growth.  On the other hand, more than 40% of the IPO companies have performed exceedingly well with annualized profit growth exceeding 20%. This affirms our thesis that markets are a mirror of earnings growth.

The AAA Way for IPOs

Being quality stock-pickers to the very core, we believe it is important to analyse the quality of any IPO company before jumping in on the bandwagon. In our view, it is essential to conduct a holistic assessment of the company and understand its long-term vision. This would lead to more informed decisions and help us better predict the company’s position three to five years down the line. Since inception, our approach to buying recently listed businesses has been extremely selective. Normally, we wait for these companies to deliver numbers for two to eight quarters before we buy them. Many a times, we find existing listed players showcasing greater value creation at lesser risk levels compared to their recently listed counterparts.

Amongst a multitude of other factors, it is necessary to judge the executional capabilities of newly listed companies. During IPO days, many companies estimate significantly higher earnings than the industry average, and at times even higher than their historical performance. Such overly optimistic estimates put significant pressure on the management, and many a times the actual results greatly detract from their own guidance.

Additionally, the newly listed companies often trade at premium valuations compared to their listed peers. We tend to avoid such companies as time correction can result in underperformance, even if the results are in accordance with the guidance.

On the flip side, there could be a host of companies which have solid business fundamentals, brand franchise, multi-decadal track record, and strong growth potential. If these companies get listed at reasonable valuations, IPOs could be the perfect entry point to become a part of their growth journey.

Our prudent and selective approach to IPO companies has been rewarding. Our framework for evaluating IPO companies is the same as our framework for the listed universe – 3M investment approach (Market size, Market share, Margin of Safety). This approach has helped us to invest in companies like Polycab, Prince Pipes, and Craftsman Auto. These companies are multi-baggers today, with their stocks multiplying more than three-fold.

Quarterly Update

This quarter again, corporate India earnings growth was propelled by the auto and BFSI sectors. Barring the chemicals, FMCG and IT sector, all sectors witnessed healthy earnings growth, thereby showcasing the underlying resilience of the Indian equity markets. All in all, the AAA portfolio companies delivered a good quarter, with the portfolio earnings exceeding the Nifty earnings, as seen in the figures below.

Market Outlook

As BJP won with clear majority in the three states of Madhya Pradesh, Rajasthan, and Chhattisgarh, the overall market narrative is quite positive. This political win reduces the uncertainty of the central elections outcome next year, thereby hinting a continued path to political stability going forward. Cumulatively, this indicates the prospects of government capex to continue, which would further enable higher economic growth. Global macros seem to be in favour with the US 10-year yields falling from 5% to 4.25%. Commodity prices are benign, which is a good sign for earnings growth.  Nifty is trading at a P/E of 18.4x – below its 10-year average P/E of 20.1x – which seems quite reasonable, given the growth going forward. Altogether, the investment backdrop seems to be resilient and positive.

AAA PMS Performance

(AAA Emerging Giants PMS Plan has been renamed as AAA Budding Beasts PMS Plan)
* (23 Nov 2009 – 30 Nov 2023); #(17 Nov 2014 – 30 Nov 2023); @(01 Jan 2021 – 30 Nov 2023)
Performance is after all expenses and fees from April 2018 onwards. Prior to April 2018, the performance is after all expenses and Fixed Management fees. Index performance is calculated using Total Return Indices, as per SEBI guidelines.
Note: Returns of Individual clients may differ depending on the time of entry in the strategy. Past performance may or may not be sustained in the future and should not be used as a basis for comparison with other investments. Performance related information provided herein is not verified by SEBI.
DISCLAIMER: This document is not for public distribution and has been furnished to you solely for your information and may not be reproduced or redistributed to any other person. The manner of circulation and distribution of this document may be restricted by law or regulation in certain countries, including the United States. Persons into whose possession this document may come are required to inform themselves of, and to observe, such restrictions. This material is for the personal information of the authorized recipient, and we are not soliciting any action based upon it. This report is not to be construed as an offer to sell or the solicitation of an offer to buy any security in any jurisdiction where such an offer or solicitation would be illegal. No person associated with AlfAccurate Advisors Pvt Ltd is obligated to call or initiate contact with you for the purposes of elaborating or following up on the information contained in this document. The material is based upon information that we consider reliable, but we do not represent that it is accurate or complete, and it should not be relied upon. Neither AlfAccurate Advisors Pvt Ltd., nor any person connected with it, accepts any liability arising from the use of this document. The recipient of this material should rely on their own investigations and take their own professional advice. Opinions expressed are our current opinions as of the date appearing on this material only. While we endeavour to update on a reasonable basis the information discussed in this material, there may be regulatory, compliance, or other reasons that prevent us from doing so. Prospective investors and others are cautioned that any forward-looking statements are not predictions and may be subject to change without notice. We and our affiliates, officers, directors, and employees worldwide, including persons involved in the preparation or issuance of this material may; (a) from time to time, have long or short positions in, and buy or sell the securities thereof, of company (is) mentioned herein or (b) be engaged in any other transaction involving such securities and earn brokerage or other compensation or act as a market maker in the financial instruments of the company (is) discussed herein or may perform or seek to perform investment banking services for such company(is)or act as advisor or lender / borrower to such company(is) or have other potential conflict of interest with respect to any recommendation and related information and opinions. The same persons may have acted upon the information contained here. No part of this material may be duplicated in any form and/or redistributed without AlfAccurate Advisors Pvt Ltd.’s prior written consent. No part of this document may be distributed in Canada or used by private customers in the United Kingdom. In so far as this report includes current or historical information, it is believed to be reliable, although its accuracy and completeness cannot be guaranteed.
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