Here is a practical guide that you can use as a checklist before investing in an IPO in India, which can be an opportunity to participate in a company’s public-market journey.
Investing in an IPO can be an opportunity to participate in a company’s public-market journey. However, investors have limited information about how the company will perform as a listed entity. This makes it essential to evaluate each IPO from a fundamentals-first perspective rather than making a decision based on speculation or market rumours.
What follows is a practical guide that you can use as a checklist before investing in an IPO in India.
1. Start with the Red Herring Prospectus (RHP)
The RHP, and the DRHP at an earlier stage of the IPO process, forms the foundation of IPO research and analysis. Investors should not rely solely on brokers’ notes or news headlines.
Key highlights:
- Understanding the Business: What products and services does the organisation offer? What are its main sources of revenue?
- Industry and Competitors: Is the sector growing? Who are the key players in the industry? What competitive advantages does the company have?
- Understanding the Risks: Investors should look at factors such as the company’s geographic presence, dependence on key customers, regulatory risks, and other risks highlighted in the RHP.
- A lack of clarity in the explanation of the business model may warrant closer examination of the company and its risks.
2. Analyse 3 Years of Financials
To understand the financial performance of the organisation, investors should analyse the ‘Restated Financial Statements’ section for at least three years.
The following aspects need to be taken into account:
● Revenue growth – Check whether top-line growth is consistent and reasonable for the industry. One-time jumps may be less meaningful than sustained growth.
● Profitability – Analyse how operating and net profit margins have changed over the years.
● Cash flows – Analyse cash flow from operations. A company can report strong profits but generate relatively low operating cash flow. Ideally, operating cash flow should be positive and show a healthy trend over time.
In simple terms, it is better to look for companies with consistent revenue growth, stable or improving margins, positive operating cash flow, and manageable debt levels.
3. Understand the Purpose of the Issue
In the Red Herring Prospectus (RHP), verify how the IPO funds are intended to be used.
- Fresh Issue: The money raised by the company may be used for growth, capital expenditure, debt repayment, and operations, among other purposes. The effectiveness of these plans depends on whether they are achievable and sensible.
- Offer for Sale: Existing shareholders, such as promoters and venture capitalists, may sell part of their stake. A significant Offer for Sale may warrant closer examination, particularly when existing shareholders are reducing their holdings substantially.
Investors should assess the purpose of the issue rather than assuming that a particular mix of fresh issue and Offer for Sale automatically makes an IPO safer. The intended use of funds and the reasons for existing shareholders selling their stake are both important considerations.
4. Check Promoter & Shareholding Pattern
Promoter holding: Check the promoters’ stake in the company before and after the IPO. A significant reduction in promoter ownership may warrant further examination of their long-term commitment to the business.
The reputation of investors: Are reputed institutional investors participating in the issue? This can provide an additional signal, but it should not be considered an indicator of guaranteed success.
Related party transactions: Look for significant or frequent related party transactions and understand their nature and impact on the business.
5. Valuation: Compare with Listed Peers
Valuation is an important area where investors need to exercise caution while analysing an IPO. A company with a strong growth story may still be an expensive investment if its valuation leaves little room for error.
Steps:
-Check the P/E (price-to-earnings) ratio and the EV/EBITDA ratio.
-Find 2–3 listed peers in the same industry.
Compare:
-The P/E and EV/EBITDA ratios
-The growth rates (revenue and profit)
-The margins (operating and net)
-The returns (RoE & RoCE)
If the IPO is priced at a significantly higher multiple than its listed peers without a clear advantage in areas such as growth, margins, or competitive strengths, it may indicate a lower margin of safety.
6. Use Grey Market Premium (GMP) Carefully
- GMP is an informal and unregulated indicator of market sentiment towards an IPO.
- Treat it as sentiment data only, not as a fundamental signal.
- GMP can change rapidly and is not based on the company’s financial performance.
- Never let GMP override your fundamental analysis.
- A high GMP does not necessarily indicate that a company will be a strong long-term investment.
7. Subscription & Demand Signals
Once the IPO opens, watch:
- Retail and HNI subscription levels: Strong and broad-based demand can be a positive short-term signal.
- Anchor investor participation: Participation by reputed institutional investors can provide an additional signal, but it remains secondary to the company’s fundamentals.
Use these indicators as confirmation, not as the primary reason to invest.
A Simple 60-Minute IPO Analysis Routine
Here's a suggested practical routine:
● 10 mins – Read about the business and note the risks indicated in the RHP.
● 15 mins – Look at the revenue, profit, and cash flow figures for the last 3 years.
● 10 mins – Check the debt, promoter holding, and purpose of the issue.
● 15 mins – Calculate or check the P/E and EV/EBITDA ratios and compare them with those of 2–3 peers.
● 10 mins – Prepare a list of red flags and come to a conclusion: invest, make a small allocation, or avoid.
This disciplined approach can help investors evaluate an upcoming IPO on the basis of fundamentals, valuation, and risk rather than relying primarily on market excitement or short-term sentiment.