When not to apply

Eleven chapters of mechanism, and the regulator manages to summarise the conclusion on one slide. Worth taking seriously, because it is unusual for a regulator to give advice this direct.

SEBI's own advice to investors

From the investor education material this subject has cited throughout, four instructions, paraphrased only in punctuation:

• Do not deal in shares in the black market or grey market.
• Invest in IPOs for the long term.
• Don't invest with anticipation of making quick profits on listing of shares.
• One person, identified by PAN, is permitted to make only one application; use your own funds, as funds routed through a third party are not a valid payment.

The middle two are the ones that contradict how IPOs are usually discussed.

Why the grey market premium is not information

The grey market is an unofficial market in IPO applications and expected listing gains, operating outside the exchanges. A "GMP" figure circulates before every issue and is reported as though it were a price.

It is not one, for reasons that have nothing to do with morality.

There is no record of it. No exchange publishes it, no regulator collects it, and the number you are shown cannot be verified against anything. Two sources will quote different figures on the same day.

It is thin. Whatever trades do occur are between a small number of participants, which makes the quoted level an easy thing to move and an easy thing to misreport.

You cannot act on it. You cannot buy at the grey market premium, sell at it, or hedge with it. A price you cannot transact at is not a price.

Where it is right, it is redundant. It is an expectation of demand, and the exchanges publish actual demand, category by category, for free, while the issue is open. If you want to know whether an issue is in demand, chapter 7 tells you where to look.

Being told not to deal in it is also a reminder that dealing in it is outside the protections that make the rest of this process work: no ASBA, no registrar, no SCORES.

Why "quick profits on listing" is the wrong plan

It is a plan whose success depends on a single day's price, set by people who did not have to read the document, about a company whose shares have no trading history.

Three structural problems with it.

Allotment is not in your control. In an oversubscribed retail category, whole lots run out and allotment becomes the lottery of chapter 6. A strategy that requires allotment works only when allotment is likely, which is when demand is low, which is not when listing gains are large.

Listing day is the most expensive day to trade. Widest spreads, highest volatility, no history. Chapter 7 of the markets subject prices what that costs.

The seller chose the day. Chapter 1: the company and its owners picked the moment, the disclosure and the band. Expecting a systematic discount from a seller with that much control over timing is optimistic.

None of which means IPOs are a bad idea. It means the case for applying has to be the case for owning the business, which is the case chapter 12 of the equity subject sets out — and if that case is sound, the listing price is not the thing that decides the outcome.

The twelve questions

Drawn from the previous eleven chapters. Every one is answerable from the red herring prospectus.

1. How much is fresh issue, and how much is offer for sale? Only the first reaches the company. (Chapter 1)
2. Which eligibility route? Retail capped at 10% and institutions at 75% or more means the profitability conditions were not met. (Chapter 6)
3. What are the objects, and how much has a named use? General corporate purposes at its 25% cap is a signal. (Chapter 5)
4. If debt is being repaid, why was it there, and what does repayment do to the interest bill? (Chapter 5)
5. Which risk factors have a number, a name or a date in them? (Chapter 8)
6. Revenue, profit and operating cash flow over three years — do they move together? (Chapter 8)
7. What are the KPI definitions, and has any metric quietly disappeared since the draft? (Chapter 8)
8. What is in related party transactions, and how much revenue depends on it? (Chapter 8)
9. What is the P/E at the cap, on what earnings, and against which peers — and who was left out? (Chapter 9)
10. What is the return on net worth, and does it justify the multiple? (Chapter 9)
11. What does the supply calendar look like — 30 days, 90 days, six months, eighteen months? (Chapters 10 and 11)
12. Would you buy this company at this price if it were already listed? If the answer is no, the answer to the IPO is also no.

The last one does most of the work. An IPO feels like a different kind of decision because it has a deadline, a lottery and an event attached. It is a decision to own a fraction of a business at a stated price, which is the only thing a share ever is.

And when to apply

To be fair to the format: there is nothing wrong with IPOs as a class. New companies list, some of them are good businesses, and buying one at a sensible price at the start of its listed life is a perfectly ordinary investment.

The conditions are just unglamorous. You read the document rather than the commentary. You form a view on the business and the price. You are content to hold it if the listing is dull. And you are equally content to skip an issue everyone else is excited about, which is most of the skill.

The point

SEBI's advice is the summary: no grey market, no expectation of quick listing gains, long-term intent. The twelve questions are all answerable from the prospectus, and the twelfth — would you buy this at this price if it were already listed — subsumes the other eleven.