The IPO Report

A Spectacular Year For IPO's
But The Biggest Winners Aren't Who You Think

by

Tom Taulli

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With such spectacular IPOs as Amazon.com, @Home, and Rambus, everyone wants to get in on the action.  The perception is that buying an IPO is as guaranteed as a T-Bond - except that you make lots and lots of money in a short period of time. Now the discount brokers-like E*Trade, Fidelity and Schwab-want to offer IPOs to individual investors.  Sounds great, huh? Well, perception is not often reality.  And this is the case with the IPO market. 

Before you jump into this market, let's first look at some interesting trends for this year.  I used the extensive database from IPO Monitor, an online service based in Calabasas, Ca.  I did a variety of screens, looking at rate of returns and industry comparisons.  Overall, the IPO market has been red hot this year.  A total of 414 companies decided to issue shares to the public raising a whopping $21.4 billion (yes, about half of the net worth of Bill Gates). The best performing IPO was Objective Communications (OCOM), based in Va. This company develops advanced video networking products for the telecom industry.  The offering price was $5.50.  The stock is now over $32. That's a rate of return that would even impress Peter Lynch.

In fact, there were four other companies that had rate of returns exceeding 300%.  These include:

· Rambus (RMBS):  378%.
· Onsale (ONSL):  372%.
· Gulf Island Fabrication Inc (GIFI):  365%.
· Friede Goldman International Inc (FGII):  352%.

There were also seven companies that had rate of returns between 200% and 300%.  These include:

· DAOU (DAOU):  261%.
· Coast Dental Services Inc (CDEN):  257%.
· SAC Technologies (SACM):  250%.
· SEEC Inc (SEEC):  248%.
· Apex PC Solutions Inc (APEX):  244%.
· Crystal Systems Solutions Ltd. (CRYSF):  240%.
· Diamond Technology Partners (DTPI):  201%.

There were 39 companies that had rate of returns between 100% and 200%. So, all things being equal (which they never are), you had a 12% chance of getting a rate of return of over 100%.

However, this does not mean the IPO market has not been without its dogs. There are 78 IPOs that are in the red.  This is how they breakdown:

1% - 10%:   21.
11% - 20%:  16.  
21% - 30%:  20.
31% - 40%:   9.  
41% -50%:    6.
51% - 60%:   5.
61% - 90%:   1 

As you can see from above, the numbers cluster mostly around 1% to 30%. Yes, a 20% or a 30% hit is significant - but this is fairly common for any stock. But the strong returns in most of the IPOs offset these declines.  On average, an IPO increased an incredible 46.39%.  This compares to a 32% gain in the NASDAQ Composite.  Yes, investing in IPOs has been very rewarding. So, at least for this year, perception has been reality.  Throwing darts at a list of IPOs would have given you a tremendous rate of return.

Okay, what if you put your money into high-tech IPOs?  Wouldn't this have even made your rate of return much higher than 46.39%? Well, this is where reality departs from perception.  The fact is that high-tech is not the best performing sector for IPOs.  Although, this is not to imply that high-tech performed poorly.  In this sector, there were 121 IPOs.  The average rate of return was 58%.  Where was the best sector?  Was it healthcare or biotech?  In fact, both of these sectors were underperformers - showing 28% and 25% returns, respectively (there were 49 healthcare offerings and 18 biotech offerings). The best sector was in energy.  In particular, any company that was in the offshore oil drilling business was a huge winner.  There were 16 offerings. The average rate of return was 77%.  Two companies had rate of returns of over 350%.  Only one company was a loser:  Ramco Energy Plc (RCO), down 19.3%. In other words, if you believed the conventional wisdom - that investing in high-tech is the best way to play the IPO market - you would have missed out on the hottest stocks.  Actually, some of the best growth stocks are low-tech.  Wal-Mart.  Coca-Cola.  Home Depot. 

Conclusion

The last couple years have been abnormally good years in the IPO market. Investors are willing to put billions into these small companies. But despite the high rate of returns, the IPO market is still very risky. After all, most of these companies are small.  And, when the economy goes into recession, a good share will suffer problems.  The key to playing the IPO market is not to consider it a guaranteed road to riches.  Just ask those people who bought Independence Brewing Co at $5 3/4 per share (the stock is now selling at $.75).  Rather, the key to the IPO is the same as for any other market:  strong research and analysis.