How Does an IPO Affect Stock Value?

IPOs in volatile markets are risky for stock values.

IPOs in volatile markets are risky for stock values.

An initial public offering (IPO) is the first time a company sells its stock to the general investing public. This process can ease a company’s access to finance for future acquisitions and growth. It also provides a reward for existing private investors and company management in the form of stock options. An IPO is a time-consuming process, fraught with risks that could impact the company’s stock valuation.

Timing

The timing of an IPO is crucial to its success. Since the world recession that started in 2008-09, there has been a lack of other funding sources for companies other than an IPO at a non-optimal time. Even during times of world economic growth, some market sectors, whether commodities, engineering or financial products, may be experiencing their own slump. Favorable market conditions can vanish quickly. Owners who plan to launch an IPO into a volatile, uncertain market risk the danger of it failing as investors sit on their funds. In this case, the stock value slumps.

Pricing

In general, capital markets anywhere in the world do not respond well to high IPO prices. Investors usually accept prices that are lower than a company’s owners would anticipate. Consequently, stock prices after an IPO can rise, and indicate that the company could have raised more money. But too high an offer price, and possibly flawed investor expectations, can result in a precipitous stock price fall.

Scrutiny

After the IPO, a company is open to substantial scrutiny both by the general public and media as well as by capital-market analysts and investors. Investors want the company to provide regular cash flow and distributions to shareholders. Without this, they will sell the stock and the price will fall. Analysts scrutinize quarterly statements for growth that enhances stock trading. A lack of growth prospects depresses the company’s stock value.

Long-Term Growth

The trade in a company stock following an IPO is, by definition, short-term. A company may find itself concentrating on short-term growth to produce excellent quarterly results for the capital markets and shareholders, rather than looking to long-term growth potential. Extra debt that finances new acquisitions will have a negative shorter-term impact on stock values. But, without this new investment, a company could fail over the long term.

 

About the Author

Based in London, Maria Kielmas worked in earthquake engineering and international petroleum exploration before entering journalism in 1986. She has written for the "Financial Times," "Barron's," "Christian Science Monitor," and "Rheinischer Merkur" as well as specialist publications on the energy and financial industries and the European, Middle Eastern, African, Asian and Latin American regions. She has a Bachelor of Science in physics and geology from Manchester University and a Master of Science in marine geotechnics from the University of Wales School of Ocean Sciences.

Photo Credits

  • Hemera Technologies/AbleStock.com/Getty Images