In anticipation of the upcoming Arawak Cay Port Development and Bahamas Telecomunications Company (BTC) IPOs now is a good time to share with our readers what they should keep in mind as they read a prospectus.
A prospectus is a formal written document related to a new securities offering. It outlines the existing or proposed business plan and gives other information needed by investors to make an educated decision on whether to purchase the security. It includes financial data, a summary of the firm’s business history, list of its officers, description of its operations and any risk factors.
Be warned, a prospectus is not an easy read. Written mostly by securities experts and lawyers with certain sections prescribed by law, they are often filled with confusing jargon and ‘investment speak’. The key to determining how successful the IPO company will be is to gain a clear understanding about what it does and who its competitors are. Is it a service, manufacturing or technology-driven company? Can it control its own pricing? Or is it just another name in an already-crowded field?
A potential investor needs to examine the financial information presented, including sales growth (hopefully improving), business profitability (increasing) and current debt levels (easily serviceable out of cash flows), as well as understanding how they intend to use the investment capital that they get from you as a new owner.
You also need to evaluate the current major shareholders, directors and senior management to get an idea of their level of expertise, experience and ability to follow through on the business plan being presented. In addition, have a look at their compensation package and note any special option plans, appreciation rights or other similar common stock equivalents to be paid to management or employers. These may provide necessary incentives but an exceptionally large package may eventually depress the price of your stock if too much profit is being siphoned off by management.
The prospectus will highlight future financial projections submitted by management, along with their assumptions and justifications for the forecasted figures. Critically scrutinize these assumptions and evaluate them in relation with the actual prior history to determine whether they are reasonable or merely ‘pie in the sky’ or ‘wishful thinking’. Don’t get carried away with management’s optimism.
Red flags
• Keep an eye open for any related company transactions, questionable loans and promissory notes, or use of business properties for personal benefit;
• Be wary of an excessive dependency on key personnel or on a few customers or suppliers;
• Look out for the emergence of new competitors or players in the industry;
• Be aware of any specific litigation that has started or is being contemplated against the company;
• Look for unexplained changes in accounting methods which may make revenues and expenses appear different from what they really are;
• Are the insiders cashing out? It’s usually a bad sign when a large number of shares in an IPO come from the original stockholders. Not only does it mean that the company won’t receive the money from the sale of those shares, but it also should make one wonder why those investors would want to sell so much of their shares if their company’s prospects are strong.
In summary
1. Be sceptical. If a claim or business plan does not look workable to you, it probably isn’t.
2. Be assertive. Make sure that you are given a copy of the prospectus before you decide to invest and insist on help in reviewing it or seek professional advice if you feel you need assistance.
3. Be inquisitive. Ask every question about the offering that occurs to you (write down a list if needed). If you cannot get these questions answered to your satisfaction, do not invest.
4. Finally, if you don’t want to deal with the hassle of reading a prospectus yourself, invest in a mutual fund managed by investment professionals whose job is to do this work for you.
CFAL is a sister company of The Nassau Guardian under the AF Holdings Ltd. umbrella. CFAL provides investment management, research, brokerage and pension services.
Source: The Nassau Guardian
