What is an IPO?

When investing in companies for the long term, you need some kind of data to determine how healthy a company is. For example, Coca-Cola, which has 30+ years of financial data to go through is much easier to value than a company that just hit the market a few years back. A few years of data is actually not much to rely on. Companies that exist for many years have survived many ups and downs in the market and a few financial crises. Whereas a company that is just a few years old just entered the market in a bull market (all prices going up) so it’s obvious that the stock prices will rise in the near future.

You can compare this with your own finances. If you are older, you have a specific mindset and had many years to follow any saving / investing plan or spend all the money you earned. When you are (were) young you are ambitious and are more likely to spend your money right away rather than saving or investing it for the future. Habits tend to change once you gain life experience and new goals. The same thing applies to new companies. Young companies are exploring the markets while older companies are also exploring but already have a solid foundation to build on. 

That does not mean new companies are bad or are more likely to fail. But they do carry a certain amount of risk you need to be aware of. Especially when you want to invest in IPOs. IPO stands for initial public offering. An IPO describes the event of a privately owned company offering its shares to the public market for the first time. In the cryptomarket space, this is called an ICO (initial coin offering). 

These IPOs (and ICOs) can be very tricky. Beforehand, you have no idea how an IPO will perform. It’s the first time they are traded in public. This might go very well or stock prices might plummet. Although an IPO means that a private company is publicly selling shares for the first time, that does not mean the company is brand new. A company that is private for 30 years and decides to enter the stock market is also an IPO. 

For the venture capitalists that invested in the company when it was private, an IPO is an exit strategy. Because before the IPO, private investors can’t sell their shares to anyone else because they are not publicly traded. Most private investors privately bought many shares when the company was founded or shortly after. Meaning the IPO price for a share will be much higher than the private investors paid for. Once the IPO goes live, they can sell their shares and take their profits. That does not mean the company stops to exist but the private investors take their money out and new investors step in. 

The average age for a company before it issues an IPO is about 8 years (1980-2021). In the last two decades, the average is about 11 years. An overview: 

Source: Warrington.ufl.edu

VC backed IPOs are backed by venture capitalists. Meaning the company was previously financed by private investors. They build up business potential to give the best return for their money. When the company hits that point, they go for an IPO. As mentioned before, this is the exit strategy for the private investors. In 2001-2021, 53% of all IPOs were VC backed. Buyout backed IPOs are companies in which financial sponsors obtain a significant amount of shares before going public. 24% of companies were buyout-backed in 2001-2021. And in the last column you can see that out of 2500+ companies, 844 were technology related from 2001-2021. 

For comprehensive comparison and more information about IPOs read here and here. For you as an investor, you need to be aware of IPOs, what they represent and how to treat them. They are more risky than stocks that are already trading for a long time. That does not mean they are bad investments.

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