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Colin McLean: the bubbly IPO market is flashing danger warnings
by Colin McLean on Dec 04, 2013 at 09:30
But there are other signals of subtle changes in the bias. One new market pattern is a belief in turnarounds. Unprofitable businesses represent an astonishing 61% of company IPOs, the highest level since 2000.
This is not always obvious in the presentations that new issues give, so prevalent is the use of the term ‘adjusted’. Many companies are freely wishing away significant costs as somehow exceptional, or use options to pay executives.
The true cashflow can be hard to see. Interestingly, presentations that mention ‘growth’ the most are also typically the most leveraged businesses.
It is not just IPOs that are being backed to reinvent their business model and achieve profitability. Many banks, such as Barclays, also need to change.Shareholders are reflecting not just a general optimism about economic growth, but also hopes for a transformation of bank culture and an end of returns that lag cost of capital.
The high rating for the bank sector, despite its underlying challenges, represents a new phase of investor optimism. Surprisingly, Barclays shares with Twitter the heavy repetition of the word ‘adjusted’ in its presentations.
The human bias to accentuate the positive is understandable and allows resilience in the face of adversity – and there has been little reward this year for pessimism. But the recent trend shows a remarkable faith in unproven business models, relying on figures flattered by unaudited accounting adjustments.
Investor beliefs are beginning to run ahead of hard analysis. Within the IPO boom are many businesses that are only floating because they have consistently lost money. Investors need to discriminate between companies that just need some help from economic growth, and those that are almost entirely dependent on management to deliver a brand new business model.
Colin McLean is managing director of SVM Asset Management. The company does not have an investment in Barclays or Twitter.
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