IPO Investments: The Double-edged Sword Called Pre-IPO Investments

While Indian stock indices have edged closer to their lifetime highs, the IPO market has yet to gain the same tailwinds.

The reasons are two-fold: the focus on profitability has become the key criteria investors are now looking for for new-era start-ups looking to list on the stock exchange. Second, due to reduced liquidity scenarios, public markets have started attributing a much lower multiple to these companies.

These two reasons forced PharmEasy, BoAt and many others to delay their planned IPOs, and they returned to seek funds from their existing institutional investors.

Downside rounds (raising capital at a lower valuation than the company raised in the last round) have become common.

On the other hand, many of the “unicorns” that listed in 2021 and early 2022 are gearing up for a large supply of stocks coming to market to be sold by existing investors as their pre-IPO lockups end. .

A report suggests that shares worth around Rs 80,000 crore will be free from blocking from November and that an offer of shares worth more than Rs 20,000 crore from investors in these companies could hit the market within the next two months.

With changing IPO market dynamics, this is a double whammy for many HNIs as many pre-IPO companies they have invested in have delayed or canceled their IPO plans. .

Those that have already been listed have seen their prices erode significantly, as seen here.


Thus, the exit has become far-fetched and the liquidity is affected. This brought back the focus on risk management and deeper due diligence for HNIs while seeking to invest in unlisted companies through pre-IPO actions.

While there are indeed advantages to investing at a stage when the company is preparing for IPO in the near future, it is often difficult to achieve fair price discovery in such pre-trades. IPO because the information available is limited and illiquidity is another important risk.

Also, if for some reason the investor has to sell shares in unlisted markets, the tax treatment is quite different from shares bought and sold on the stock exchange.

Therefore, an HNI should only use pre-IPO actions to add themes that are not available on the listed markets (an example could be a sports franchise like Chennai Super Kings, which is a live game on IPL) or when ‘a very attractive agreement on the evaluation is available (otherwise, difficult to make money, just to correlate, for an HNI who bought

at Rs 2500 in the private markets before the IPO, the share price must now increase by 4X before reaching the break-even point of its capital).

The overall cap on pre-IPO investments should not exceed 5% to 10% of the portfolio to control risk. Asset allocation and proper due diligence, boring as it is, are the determining factors of a portfolio’s performance.

(The author is director and co-founder, Valtrust)


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