Pre-IPO Stock Investing in India: How Does it Work and Why is it Important?

Pre-IPO investing in India is an excellent opportunity for investors to make higher profits than the usual gains other investors can make from the same shares. Previously, pre-IPO investing was only available for high net-worth individuals. Now, any investor with a banking and Demat account can invest in an IPO during the offer period. But should you invest in a pre-IPO company?

Here’s more.

What Are Pre-IPO Stocks?

Pre-IPO stocks, as the name suggests are stocks of companies which are yet to go public. As a pre-IPO investor, you will be one of the significant shareholders and a part of company's growth. You will also have the chance to earn a huge profit when the company lists publicly. 

If an IPO is oversubscribed, there are chances that you might not get the allotment. This is why some investors might invest in pre-IPO. 

Many companies opt for pre-IPO to gather capital and form their investor base before going public. 

Also Read: What is Pre-Apply in IPO?

How Does Pre-IPO Investing Work?

Pre-IPO investment is now open for any investor who wants to be a part of the company's growth from scratch. But mostly, pre-IPO is not available to everyone due to a lack of public awareness. Previously, pre-IPO shares used to be only available to banks, hedge funds, private equity companies, and a few other types of entities. 

Now, you can invest in pre-IPO if you have bank and Demat accounts. Also, a company can now dematerialise their shares which allows everyone to invest in them and conveniently move them from one account to another. 

Primarily, share brokers manage pre-IPOs. If you wish to invest in a pre-IPO, you have to do so through a broker. The broker will inform you about the companies that are currently offering pre-IPOs and their details, such as brokerage fees and share prices. 

If you wish to invest in the pre-IPO, you have to send the investment amount to the broker, who will transfer the amount to the company's account. You will receive the shares in your Demat account by T+0 evening or T+1 morning. Once you are able to see the ISIN number of the shares in your Demat account, the transaction is complete. 

Another way of investing in pre-IPO is through fund houses. Many AMCs offer limited-subscription pre-IPO mutual funds. This allows investors to invest in late-stage companies. 

What Are the Factors to Consider before Investing in Pre-IPO Stocks?

You should consider the following factors before investing in pre-IPO stocks:

• Possibility of going public: A late-stage company has a higher possibility of going public or getting listed on stock exchanges. Companies that have a higher probability of getting listed will be more valuable to investors. These companies usually have higher liquidity. 
• Liquidity: Pre-IPOs do not observe much volume in buying and selling as these are not listed on the stock exchange. These stocks are mostly sold through brokers. Hence, buyers and sellers depend on the broker's feedback. If the shares lack buyers and sellers, it might create a challenging scenario for buyers and sellers. This is why pre-IPOs are mostly ideal for long-term investors. 
• Company details: You should collect as much information as possible about the company to gauge its growth prospect and financial stability. The website of the Ministry of Corporate Affairs (MCA) typically contains vital information about such companies. You can also find such information from the broker. 

Why Should You Invest in Pre-IPO Stocks?

Pre-IPO companies offer a lucrative scope of investing to investors. Here are some of the reasons why you might consider buying pre-IPO stocks: 

• Seasoned Entrepreneur

Experienced entrepreneurs or businessmen usually launch pre-IPOs. They have already been through trial and error to figure out what works and what doesn't. These companies are logically expected to perform better and yield higher returns than start-ups that are new to the industry. 

• Solid Business Model 

Pre-IPO companies usually have been around for a long time, and they have tried and tested business models. Hence, when such shares go public, they have the chance at skyrocketing profits, of which you will get the first dib being a pre-IPO investor. 

• Value for Money Investment 

When you invest in a pre-IPO stock, you get to invest in company shares at a portion of its market value. This gives you a higher return than your investment. Even though IPOs may seem like a cheaper option as they offer rock-bottom prices, but they hold the risk of post-IPO corrections. Even though IPO prices might seem cheap, most stock markets eventually correct post-IPO. This leads to huge losses when compared to investing in pre-IPO companies. 

• Low-risk Investment  

When you invest in a pre-IPO of a private company, the risk of investment is low. This is because most of these companies are yet to make a profit or haven't generated a stream of income. This also means you will receive higher returns than post-IPO stocks. However, there is also a risk of failure when it comes to the stock market. But these risks are lower for pre-IPO stocks.   

What Are the Risks of Investing in Pre-IPO Stocks?

As discussed previously, pre-IPOs are not free of risks; just the chance is low. Following are the risks associated with pre-IPO investing: 

• Listing Uncertainty

Whether or not an IPO will get listed depends on SEBI’s approval of its application. Also, the company itself might decide not to go public due to some internal reasons. 

• Low Returns 

As pre-IPO stocks are not listed, you might find it difficult to sell them in the initial stage. Additionally, there are also chances that the IPO might not list or not list above your purchase price, which will affect your returns significantly. 

How to Invest in Pre-IPO Stocks the Right Way?

You might find it difficult to find the right business to invest in as well as the right way to invest in them. However, here are some ways in which you can consider investing in pre-IPOs:

• Keep an eye on daily news and current affairs to know which start-ups are flourishing. 
• Talk to the local banks to know if any business is looking to raise funds. 
• Expand your business network. 
• Consult with companies that deal with pre-IPO shares and fundraising for support and guidance. 

Final Word 

Pre-IPO investing in India offers substantial return potential at low investment costs as they are not listed yet. However, you should do proper research and analysis before investing to know whether it will be an ideal investment option for you or not.