Truth Behind India IPO
Truth Behind India IPO So in this entire game, who is it? Who is benefiting? So founders are benefiting. Now I’m getting into the reals of conspiracy theory.
This is not something that will be public information. So today’s article is offend VC’s, venture capitalists.
It is going to offend investment banks, It is going to offend mutual fund managers. It is also going to offend a lot of unicorn founders. But hey, who cares? I’m going to spit facts and data.
This is a very important for retail investors who are in the habit of investing in IPOs.
I’m going to systematically outline the point that majority of tech-based companies IPO in India were a kind pump and dump scheme. And going forward also, it is unlikely that this story is going to stop. Truth Behind India IPO
let me start sharing some facts and let me show you three specific pictures.
So the first picture is of paytm, and you will see that the stock got crushed by 60, 70%.
Second story is off zomato, Again you will see that after I P O, this stock got crushed by 60, 70%.
Third story is of Nykaa, Again, the stock got crushed by 60, 70% after its I P O.
Now, if I throw a question at you that what is the commonality between these three companies? You will of course say that, okay, these three companies were unicorns, very visible founders, and they lost their valuation by 50, 60% or 50 70%.
This is where you will stop the story, but one critical point that you will message that many of the insiders in these companies have sold their stake at the time of IPO or subsequently and have made crazy amount of money.
So in this entire game, who is it? Who is benefiting? So founders are benefiting insiders or early investors are benefiting because they are able to extract high valuation and make their money. Truth Behind India IPO
Investment bankers who help launch the IPO and that process is called as the underwriting process.
And finally, it is only the retail investor who is not benefited, who ends up taking a lot of loss in this entire gig.Truth Behind India IPO
So I’ll help you understand this entire complicated story in very easy, simple to digest steps. But before that, let me share one final funny picture with you that has to do with Nykaa valuation.
So right now Nykaa has been crushed by almost 60% from its peak and still its PE ratio is 1000, which is absolutely nonsense. So yeah, I failed to understand why retail investors get so excited about upcoming IPOs and just run after it.
It is just beyond my imagination. If you are looking to make good amount of money by doing sensible investing right now, you could definitely consider doing something like US Index Investing.
You can buy NASDAQ, you can buy S&P 500 very, very easily. NASDAQ is trading at roughly 25, 30% from its peak.
Now many of you ask me, how do I invest in US stocks and US ins. For that, you can go and check out WestEd. So with that disclaimer, let me discuss three critical points . Truth Behind India IPO
Number one that are IPOs in India, pumped and dump.
Number two, if they are pumped and dumped, then how exactly does the mechanism play out?
Third, and finally, what is it that you can do as retail investors to protect yourself? So that is the simple conversation that we are going to have.
Point Number One
And point number one is that you must be able to grasp the overall game of IPO.
I will explain that in a minute, So basically what happens is that when any company that you consider, be it Paytm, be it Nykaa, be it mamaearth now they have early stage investors.
For example, Shilpa Shetty is one of the early stage investors in a company called As MamaEarth. Now before an IPO. So IPO launch happens last.
So, so after IPO, what ends up happening is that Mamma Earth will either be listed on NSC, BSC or both, and then retail investors can start participating in that before the IPO process, the company is called as a private company and it has a set of its own early stage investors. Truth Behind India IPO
So for example, shilpa shetty is one of the early investors at Mamma Earth. So I hope you got the difference that what happens to a company pre and post ipo.
Point Number two
Point two is, that these early stage investors, why do they invest in a company? Now, there are multiple reasons for it, but one of the primary reasons is that if they are putting in let’s say, a hundred dollars, they see the potential that you know what? I’m going to turn this a hundred dollars into $1,000 easily within a few months or few years and definitely into a lot of money if the company IPOs.
Now, why does that happen? That is a central question that you need to understand and I will break it apart. Now, how does this journey from a hundred dollars to $1,000 takes place? So this is called as different rounds of funding.
For example, you might have heard that there is something called a seed round. Then there is something called a series A, series B, series C, series D.
So usually what happens is that in every stage, for example between series A and series B and series C, the valuation keeps on going up.
So just for context, MAMAEarth back in January of 2021 was valued at X. So whatever that X number is now, just in one year, they have been valued at three x. So they have filed their papers and their valuation number comes out to be roughly 24,000 Crores.
So that is how much they’re valuing their company at. These are not my valuations. These are valuations that have been run by a company called a Sequoia, which was their early stage investor. Truth Behind India IPO
Now companies like Sequoia want to play this a hundred dollars to $1,000 game. So to cut the long story short, the overall modus oprandi in IPO launching is fairly simple that you get a bunch of early stage investors, for example, Sequoia Capital and a bunch of high-powered celebrities who want to play that a hundred dollars to $1,000 game.
The valuation keeps going up after every successive round and then finally an over-inflated asset after it IPOs, it is dumped on retail investors.
So this brings us to the second point that how exactly is it that VC’s pump and dump things? So for this, let me share a little bit of historic context.
Take a look at this chart and what you would notice is that between the time period 2012 to 2016, world was growing at a very fast rate.
There was actual development that was happening in the world, economies were growing, it was a good, good period for the entire world.
So as a result, the VC industry started gaining more prominence and this can be checked by the amount of money which was being pumped into US VC fund.
So you can clearly see that from being roughly a $6 billion industry, it grew to $30 billion industry in no time.
So that was a five x growth in an industry in a period of five years. So this was the golden period of VCs, and the VCs got established as a credible business model.
So now comes the question that, hey, what is the exact business model of VCs? So I’m oversimplifying here just for clarity, but I hope you get the message.
So without getting into the technicalities, this is what the VC model looks like. So basically when a seed round is launched, then hypothetically, let’s imagine that the company is valued at $1 million. Truth Behind India IPO
Then in every round, new VCs or private investors are brought in and this bubble keeps on going up, up and up.
Now you might have a natural question that, hey, how is it that these new investors or new VCs that are entering this series A or series B or series C, why are they buying this company at such high valuations?
So imagine in our example that this company was valued at 1 million and now it is valued at 1.5 billion. So there has been massive growth or a massive pumping that has happened.
So comes the natural question that if why is it that people are buying or still investing in this company at this stage? Well, the answer there is fairly simple that they know that in the next round they will be able to find the new investors and they might be able to A either take exit in the next round or they can wait for the IPO and that is when they can offload their shares on retail investors.
Now in order to give legitimacy to this game, you might have heard that a lot of companies focus on revenues not profits. This is such an important aspect because just go and read the DHRP of MAMA Earth. Truth Behind India IPO
It is a 400 page D H R P. Again, I had read every single word that has been written on it. It is this thicker book.
So I ended up reading that entire DHRP and you will notice a lot of points that you know what we have become profitable, therefore we command like higher premiums, whatnot. But hey, here is the reality of MAMAEarth valuation.
the VC model is fairly simple that hey, ask companies to focus on revenues. Just grow your revenues. You can keep on burning cash, no problem.
Now VCs are not mad. They have an agenda at play. They understand that they can find New investors if they can just just focus on one thing, which is the growth metrics or the revenue growth metrics of a particular startup or a company.
So as a result, pre 2020 you would’ve seen a lot of startups, for example, paytm, Zomato, byjus What were they doing? They were just focusing on revenues. They had no intention of making profits. Truth Behind India IPO
Why? Because they wanted to keep pumping this bubble and make it as big as possible. Why is that the case? Because when this bubble goes from here to here, it is the early investor that benefit the most.
That is part A and part B is that in the last round these people would’ve invested at this size right now they want this bubble to be bigger.
VCs are left with no other option but to pump this bubble and make it really, really big because they need an exit at some point in time.
So this brings us to the next point that okay, fine, VCs would definitely want to pump up because they have stake in that company.
But why do investment banks give legitimacy to it? Because when you bring a private listed company into the public market, so that process is called this IPO. Mama earth is a private company. Truth Behind India IPO
It is going to do its IPO and then it is going to be publicly listed on NSE, BSE. You can go on your Zerodha, grow up stocks account and you can then buy and sell this stocks.
So this is a process through which these loss making or very mini scale profit generating companies go through. So now comes the point that this IPO process must be managed by someone, right? That sebi we will be looking at it or a bunch of government agencies might be looking at it.
So how does this exactly play out and is government complicit? So point number one is that when a company goes from private to public market, that process is called as an underwriting process.
For example, investment banks like Morgan Stanley, JP Morgan, Goldman Sachs, these type of big, big banks, they do this underwriting process and guess what? The higher the price of the IPO or the bigger the bubble they can sell, the more money they make in the form of underwriting fees.
So as per a research done, this is usually the commissions charged by investment banks when they help companies go from private market to public market.
So definitely here are the early stage investors benefit here, the banks benefit. Now comes the natural question that hey, can’t government do something about This well sebi has come out with its own laws and they are probably looking into it, but here is a difficulty in this entire game. Truth Behind India IPO
So the game of valuation itself is rigged. No one knows that what the exact intrinsic value of a stable stock also is.
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For example, if I ask you that, what is the correct price of HDFC bank stock right now? Now HDFC Bank has a lot of trading history. You can see it’s last 15, 20 years of book which is publicly available.
You can go and analyze it. Still today you can’t say that a HDFC bank should be trading at 16/50 or 17/50. You can’t do it.
So valuation process itself is hard. Related point would be that when a startup is going from private to public, it becomes even harder to value that.
The third and final point is that majority of these companies that are pumping up the IPO and dumping it, they are tech-oriented startups. Even they do not know what type of business model they want to run.Truth Behind India IPO
For example, Paytm is a classic case where the business model itself is very confused. Sometimes they see banking license, they don’t get it, then they figure out some other business. Same goes for Mamaearth.
Go and read its DHRP, You will see that hey, we are an online D two C direct to consumer channel. Our sales is online, we are an online winner. But now what has happened is that post covid people are moving back to shopping from malls, different, different areas.
So they want to turn their online presence more into offline presence. So they themselves are trying to pivot that model.
So the valuation that they are demanding is that of an asset-light company, but they are going to pick up that ipo money and start like offline stores.
So now comes the fourth point once the bubble has been built, it has been stamped by investment banks that okay, go and sell it. The government again can’t do anything because this is perfectly legal. Then comes the final point of taking exits.
Now here I would like to feature a classic story of Mr. Yashish dahiya and he’s the founder of Policy Bazaar reporters asked him, sir, why are you selling your own stocks? Don’t you trust your own company? Why don’t you hold it?
So this is the response that he gave you know what, I have to take care of my karcha paani and this is the only company that I’ve built almost all my money stuck into that. Truth Behind India IPO
So I need like karcha paani. So how would I get that karcha paani by selling my stocks? Therefore I sold that stock.
Now I don’t know how much you trust this logic, but just to give you complete information, it’s not as if that founders work for free in their company.
When they’re private they withdraw a salary. So it’s not as if that these founders are poor. So the same thing happened with NYKAA and a bunch of other companies that that when the company did its IPO, that either the lead investors sold their stake, founders sold their stake, partly combination of both and this is how the stock is finally dumped.
Now in mamaearth context, let me tell you how the dumping of the share will happen. And for this you need to understand two specific points. So one is called as offer for sale and the second is called as fresh issue.
So fresh issue simply means that the company is going to release new shares in the market and is going to make money from it. Offer for sale simply means that the company has existing share. For example, the founders might have 1000 shares.
So those shares are already existing. So in offer for sale, what they do is that they say that, you know what, we are going to sell our 600 shares out of our 1000.
Do you want to buy it? So let’s break it apart and see that how much money is actually mamaearth making from offer for sale and fresh issue? So from fresh issue, they are going to make only 400 crores. Truth Behind India IPO
So that is the new share that they have issued at hyper valuation and they are going to make 400 crores from it.
But the existing founders and early stage VCs are going to make 2,500 crores because they have already pumped up their stocks, increase the value, and now they are just going to give it to you at very high prices.
So now comes the final two questions that, okay, no it’s not like this and I, you do make money, I completely agree, It’s not as if that every IPO is rigged and probably even mamaearth IPO might be great, I don’t know.
But you need to understand the entire story that it does not play out in a binary fashion. So the pump and dump does not happen like that. Okay, the stock gets listed on exchange on 25th November by and by 27th November it loses like 50% of its value.
It doesn’t go that way, Sometimes the stock gets listed, it goes up in price. Also, you have mutual fund houses supporting that.
Now why do mutual fund houses support by buying all this overin inflated stuff? Because they have mitrda with investment banks Why? Think about it again.
Why do you think that investment banks has three to 5% of the entire stake in terms of bringing a company from private to public? Well, it’s very simple story.
This three to 5% money, it’s not free money. They still need to manage the market to a very large extent. Now I’m getting into the reals of conspiracy theory.
This is not something that will be public information. So I will be conjecturing and I will be drawing inferences as and when I see the market.
But help me understand better that why three to 5% commissions need to be charged. So this is the entire game. What can you do to save yourself?
Point number one is that please do not buy tech oriented loss making or very little profit making companies. Truth Behind India IPO
Number two, please understand the actual intent why that ipO is being brought. Is it simply to give early investors an exit? Yes, in MAMAEarth case, that seems to be true. So please avoid these type of companies.
Third and final point, if you do consider these companies to be good, wait and watch, wait for an year, year and a half, you yourself will be able to figure out how inflated the stock was.
If you miss the bus, I can almost assure you, and it would be very rare that you’ll miss like 50, 60% gain. Most likely the stock is going to trade up and down and eventually it’ll discover its two price.
And at that point in time you can go and build a position. You will have more financial data that how much revenues the company is truly making with what intent the IPO was launched. Truth Behind India IPO
So after one year, look at the performance of the company and then decide to invest in it. So I hope you understood the entire game