He says: “UK small-cap fund managers might be forgiven for feeling a little queasy over including IPOs in their clients’ portfolios.
"In 2023 the largest UK IPO was CAB Payments, down 75 per cent by the year end. Numerous others have savagely disappointed before: The Hut Group, Dr Martens, Revolution Beauty… all down 74 per cent or more since issue."
Oliver Brown, who runs the RC Brown Primary Opportunities fund, says one of the issues with IPOs that have come to the market in the UK in recent years has been that "many are in areas such as online commerce, which had a big boost during the pandemic, but as pre-pandemic shopping habits have returned, so the performance of many of those companies has declined."
Seller's market
Invesco’s Brown says he tends to invest in "only about one in 20" of the IPOs that come to the London market.
He says: “The issue is that the seller is often from private equity, and there is an asymmetry of information, ie the company has been owned privately for years so they know more about it than me, and they are choosing to sell now, which makes me wonder why sell now?
"And more fundamentally, it is often the case that private equity owned companies have been under-invested in, and that a lot of financial engineering has been deployed, so what you are being sold at the IPO stage is a business that will need more cash to rebuild it.
"One of the things we look for is the ability of a company to convert the turnover it generates into profit.”
Laurence Hulse, manager of the Onward Opportunities investment trust, says he does not like to invest in IPOs as it is difficult to find investments that are attractively priced because “typically the seller of the company at the IPO stage knows more than you do as the buyer”.
Neil Hermon, who runs a smaller companies investment trust at Janus Henderson, says one should view IPOs brought to the market by private equity owners with "extra caution".
"And it is probably valid to apply a lower valuation to most of those, compared to an IPO that comes to the market from, say, a family business. But in general we are open to IPOs and they have provided us with a rich seam of opportunities throughout my investment career."
One of the elements he considers when evaluating an IPO is the “investment banker that is working on it from the seller's side. Is it someone we have worked with in the past, are they someone who does proper due diligence prior to bringing a company to market?”
