Last Updated on May 24, 2022 by Anjali Chourasiya

Nykka IPO, the latest in the series of blockbuster initial public offerings, was subscribed 81.78 times on the last day of subscription. Zomato IPO in July 2021 also got a tremendous response; for each share the company wanted to sell, they received over 38 applications for it.

The overwhelming response to the IPOs may make them an attractive option; however, it is essential to base your investment decisions on facts rather than sentiments or trends. So, how do you value an internet IPO?

Initial public offering: A lucrative investment

Initial public offering allows you an opportunity to invest in businesses that have growth potential. However, it is crucial to remember that all IPOs do not make for a good investment. Investing in an Initial public offering allows you to earn profits in a short period; especially, when you invest in internet businesses that have disruptive models. They are also a great choice to invest in with long-term goals in mind. 

Picking the right IPO may require some attention and research. Companies generally come out with IPOs in buoyant markets (the current spate of IPOs is proof enough); thus, it is easy to get swayed by sentiments and tempted by the lure of easy money.

A few general guidelines that can help you pick good IPOs

  • The DRHP (draft red herring prospectus) is a voluminous and heavy document that companies fill before their IPO. Most investors ignore this document. The DRHP has a lot of valuable information which can help you make an informed decision.
  • A good thumb rule is to avoid investments in businesses that you do not understand. Do try and find out what the company does, its growth plans, and its business model before you invest. 
  • Look at the promoters, too, before you choose an initial public offer for investing. It is crucial to know who is running the company, as their experience and vision will impact its performance in the future.
  • Compare the company with its peers in the same sector (both listed and unlisted). That will give you a better understanding of the finances, strength, and performance of the business. 
  • Grey market premium (GMP) should not sway your decision; it is not a factor to consider when you evaluate an IPO and want to invest for the long term.

How to value upcoming internet IPOs?

Internet companies may vary from traditional businesses in some aspects. However, like all businesses, they need to remain profitable and work on sound business principles. 

Below are a few factors that can help you evaluate upcoming internet IPOs:

Number of unique visitors

You can judge the valuation of internet companies by looking at the number of visitors they attract. All new visitors will necessarily not convert into customers; however, it indicates the app’s reach and audience size. Internet companies can be successful only if they attract enough potential customers to their site. 

The annual number of visits to the PolicyBazaar website saw about 126.5 million visits in FY 2021. Almost 65% of all digital insurance sales in India by volume for FY 2020 were through its platform. With these figures, it’s easy to understand why the PolicyBazaar IPO was oversubscribed by 16.6 times.

Conversion rate

The number of visitors alone does not guarantee success for any business. The next task is to convert those visitors to customers. The conversion rate will vary as per the business model. The conversion rate for models like food delivery apps will be much higher when compared to an aggregator selling insurance online; for food delivery apps, the number of repeat customers too will be high. For some companies, the conversion rate may be placing an order, while for some, it may be signing up for a service or newsletter.

Total addressable market

The total addressable market or total available market (TAM) relates to the total possible demand for the product. The revenue a company can generate will depend on the TAM for the product or the service. Lower TAM indicates that the company will find it challenging to grow due to high competition or low scalability.

Investors in the PayTm IPO would have been motivated by the growing popularity and the demand for digital payment models. The TAM will increase steadily in the future, and so will the competition.

Contribution margin per customer

Contribution margin is a crucial aspect for the unit economics for the e-commerce business.  The contribution margin can help you assess the long-term profitability of the company. In the initial stages, most e-commerce startups are not profitable as they have to make enormous expenditures for promotions, marketing, advertising, discounts, etc. However, these expenses made in the initial years help generate brand awareness, build a loyal customer base and generate benefits over the year. Look for companies that have encouraging contribution margins before these marketing expenses.

Mobikwik IPO is likely to hit the market soon. The company’s losses for the year ending 31 March 2021 increased by 12%; at the same time, its user base also expanded to over 101 mn. As per the National Payments Corporation of India, the company has a 26% market share of the IMPS transfer market in India.

Data monetization

Data monetization involves using data to increase revenue. The companies which have adopted data monetization and made it an integral part of their strategy are among the highest-performing and fastest-growing businesses. When evaluating an IPO, you should look for models that have high data monetization channels.

Operational strength

Robust backend processes and streamlined operation are essential to keep customers satisfied and also for customer retention. The high number of visitors and conversion rate cannot guarantee success unless the front end is supported by efficient customer support and backend operations.

Conclusion

IPOs of unicorns like Nykaa and Policybazaar turned November into a historical month for the Indian stock markets. However, there are more IPOs lined up over the coming weeks. Oyo, Delhivery, Mobikwik, and Ola will likely come out with their IPOs soon. So evaluate these companies well and invest in their initial public offering if you find them lucrative.

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