Beginner's Guide | An In-Depth Analysis of Opportunities and Pitfalls of IPO Listings from an Investment Perspective

What exactly is an IPO? Why do companies go public?

What is an IPO? In simple terms, an IPO (Initial Public Offering) is the process by which a private company first issues shares to the public and becomes a listed company. In Chinese, it is called “首次公開發行” (First Public Offering).

When a private enterprise reaches a certain stage of development, the founders’ initial investments can no longer meet the needs for expansion. At this point, management may consider raising funds through an IPO. An IPO not only helps the company obtain a large amount of capital for debt repayment, R&D, and business expansion but also transforms private equity into tradable public shares, giving ordinary investors the opportunity to share in the growth benefits of high-quality companies.

For investors, an IPO represents a gateway to access high-quality unlisted companies. Many promising companies are kept out of reach of retail investors due to private ownership, but once they go public, these “forbidden zone” stocks are presented to the public at IPO pricing.

Risks investors must understand before investing in new IPO shares

Before succumbing to the allure of high returns from IPOs, investors need to calmly assess the risks involved.

Speculation risk of new shares is the most prominent. The market often experiences waves of hype, and some companies, even with poor fundamentals, may see their stock prices artificially inflated due to hype around concepts. When large institutional investors and well-funded investors start selling, retail investors often react too late, ultimately becoming bagholders.

Initial pricing has already priced in positive factors. During IPO preparation, companies incorporate all foreseeable growth factors into the valuation logic, which means the potential for stock price appreciation on the first day of trading may be significantly compressed. Many investors chase high prices, resulting in long-term sideways movement or even declines.

Surface illusion of information asymmetry. Although theoretically all investors can access the same information through the prospectus, large institutional investors gain deeper communication opportunities during roadshows and interactions with management, far surpassing retail investors. This hidden information gap always exists.

Why do investors still participate in IPOs? Three core advantages

Despite the risks, IPO investments still attract many investors. The main reasons are threefold:

1. Clear cost advantage. IPO pricing is usually the lowest price the company can offer. Missing the initial offering means subsequent purchases will only be more expensive. If you identify a company with strong growth potential, participating during the IPO may be the most cost-effective timing.

2. Market sentiment boosting gains. Companies typically launch IPOs in a bull market environment, which already indicates market optimism about the company’s prospects. Coupled with high attention on the first day, this often results in significant short-term gains, providing investors with opportunities for quick profits.

3. Relatively high information transparency. Listed companies are required to disclose financial reports and major events regularly, providing investors with more comprehensive decision-making basis compared to private companies.

Hong Kong Stock IPO: Process and eligibility analysis

Listing on the Hong Kong Stock Exchange involves multiple steps. Taking the Main Board as an example:

Application and review stage: First, appoint sponsors, accountants, lawyers, and other intermediaries to form the IPO team. Then submit application documents to HKEX and publish the prospectus. During this period, regulatory authorities will raise a series of questions, which the company must answer and supplement one by one.

Roadshow and pricing stage: After completing the prospectus, the company conducts non-deal roadshows, investor meetings, and international roadshows, ultimately setting a reasonable price based on market feedback.

Offering and listing stage: The company officially launches the IPO in Hong Kong, opening subscriptions to the public.

Hong Kong IPO eligibility conditions (for Main Board, meeting any one of the following):

• Profit of at least HKD 20 million in the most recent year, or a cumulative profit of at least HKD 30 million over the previous two years, with a profit of at least HKD 500 million at listing
• Market capitalization of at least HKD 4 billion at listing and revenue of at least HKD 500 million in the most recent financial year
• Market capitalization of at least HKD 2 billion at listing, revenue of at least HKD 500 million in the most recent financial year, and total operating cash flow over the previous 3 financial years of at least HKD 100 million

US Stock IPO: Different requirements for two major exchanges

US stock listings are relatively more regulated. The process includes: finding an investment bank team, registering with the U.S. Securities and Exchange Commission (SEC), conducting nationwide roadshows, setting IPO prices, releasing the prospectus to the public, and finally completing the initial public offering.

NYSE eligibility conditions (meeting any one of the following):

• Pre-tax profits of at least USD 100 million over the past 3 fiscal years, with at least USD 25 million in the last 2 years
• Global market value of at least USD 500 million, revenue of at least USD 100 million in the past 12 months, and cash flow over the past 3 years totaling at least USD 100 million, with an average annual cash flow of at least USD 25 million over the past 2 years
• Global market value of at least USD 750 million, with annual revenue of at least USD 75 million in the past 2 years

NASDAQ eligibility conditions (for the national market, meeting any one):

• Earnings before tax of at least USD 1 million in any two of the last three years, with shareholders’ equity over USD 15 million, public float over USD 8 million, and at least 3 market makers
• Shareholders’ equity over USD 30 million, 2 years of operational history, public float over USD 18 million, and at least 3 market makers
• Listed securities market value over USD 75 million, public float over USD 20 million, and at least 4 market makers
• Total assets and revenue of at least USD 75 million in any two of the last three years, with public float over USD 20 million and at least 4 market makers

How should investors approach IPO investments?

Doing homework is the primary principle. Before participating in any IPO, investors should thoroughly research the company’s fundamentals, competitive position, management team background, and financial health. Do not be swayed by hype; instead, make decisions based on rational analysis.

Manage expectations and think long-term. Do not expect the IPO to double on the first day, nor should you rush to exit due to short-term fluctuations. IPO investments should be part of a long-term portfolio, combined with diversification strategies to reduce risk.

Pay attention to market environment. Participating in IPOs during a bull market carries relatively lower risk, while caution is advised in a bear market. Also, monitor the performance of other listed companies in the same industry as a valuation reference.

Participate moderately, avoid all-in. While IPOs present opportunities, they also carry real risks. Investors should only use funds they can afford to lose and avoid risking their entire wealth.

In summary, IPOs are a rare opportunity for investors to access high-growth stocks, but only if they fully understand the risks and make prudent decisions. Blindly following trends or being overly optimistic can easily lead to losses. Only those who recognize both opportunities and risks can truly benefit from IPO investments in the long run.