Fake investors for IPOs?

Mon, 23 May Pre-Open

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Several companies have come up with their initial public offers (IPOs). And retail investors appear to have by and large shied away from the smaller ones. One of the reasons for this could be that many of these IPOs were at ridiculously high valuations. And in a way it was good that retail investors stayed away from them because a large number of these IPOs are now trading below their issue prices.

The Securities Exchange Board of India (SEBI) has brought a large number of these IPOs under their net. It suspects that many of these IPOs were subscribed to by fake investors. SEBI believes that these investors were actually acting on behalf of the company or a larger operator. And they subscribed to the IPOs just to show that the IPO is garnering investor interest. Such kind of interest would lure innocent investors into investing in the IPOs of such companies.

So how does it work? The company which plans to come up with an IPO may appoint an operator to work on its behalf or may act on its own. Either way, it would strike a pre-IPO deal with some 'investors'. These investors would create an artificial demand for the company's IPO. And this demand would lure other retail investors into investing in the IPO. This way, the company benefits as it is able to raise its funds through a successful IPO. The dummy investors benefit as they are able to sell their shares upon listing at a price higher than their costs. In addition, they receive quite a hefty sum of money from the company. But the genuine retail investors lose as they are conned into investing in a company that just does not deserve the amount invested in its shares. This story sounds horribly similar to the stock market scams of Harshad Mehta and Ketan Parikh days. Unfortunately SEBI believes that these stories are still a reality in the stock markets.

So how does one know if an IPO is worth investing in or is it just being manipulated by the stock market operators? Well the only way to do that is to go through the company's financials and ascertain its fundamental strength. If the company is fundamentally strong and has a reputable management, then it would more often than not stay away from such manipulations. However, if it is a company with a shady management and poor fundamentals, then it is more likely to resort to such dubious schemes. Therefore, if one is looking at investing in IPOs, it is essential to check the fundamental strength of the company, its management record and most importantly its valuations. If even one of these things is not in order, then it is better to stay away from the IPO. Rather than investing in it and getting stuck with a loss-making investment.