What to look for before investing in a consumer internet company

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Food-tech platform Zomato has lined up its initial public offering (IPO) for July 14-16, hoping to raise Rs 9,375 crore. It will be the first in a series of consumer internet companies and startups raising public money in India post-pandemic.

What are the details of Zomato’s IPO?

Zomato’s offer size of Rs 9,375 crore marks an increase from the previously announced Rs 8,250 crore when it filed draft documents with market regulator SEBI in April. It has set a price band of Rs 72–76 per share. Bids can be made for a minimum of 195 equity shares, and in multiples of 195 thereafter. Of the total offer size, shares worth Rs 9,000 crore are fresh issue while the remaining is an offer for sale by Info Edge (India) Ltd.

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Why an IPO during the pandemic?

While the pandemic has severely hit the services sector, business improved for consumer internet companies after the initial lockdown last year. These benefited once home delivery of food was permitted while restaurants were not allowed to open.

According to Zomato’s filings, the gross order value on its platform fell to Rs 1,093.63 crore for April-June 2020 from Rs 2,684.91 crore in January-March 2020. It then rose to Rs 2,981 crore for October-December, higher than in the same quarter the previous year. The first nine months of FY20-21 show an improvement in unit economics of Zomato’s business, with commissions and delivery charges rising compared to 2019-20, and discounts falling greatly. In a press conference Thursday, Zomato’s leadership said compared to the first wave of Covid, its business did not witness a negative impact during the second.

Which other consumer internet companies and startups have gone public, and which ones are next?

Zomato’s investor Info Edge will divest a part of its stake for Rs 750 crore through the IPO. Travel agencies MakeMyTrip.com and yatra.com have listed in the US; e-commerce firms Infibeam and Indiamart, and recently Easy Trip Planners, have done so in India.

Up next, fintech firm Paytm is lining up a Rs 16,000 crore IPO. Cosmetics firm Nykaa, logistics firm Delhivery, and online insurance aggregator Policybazaar too are said to be considering IPOs to raise funds.

What are the opportunities and challenges ahead of Zomato?

Given that the company saw solid growth in business during the pandemic, the question is how its plans to sustain the growth once things normalise. However, Zomato is present in a sector that has a high entry barrier for new players, and this could help it grow as the market size grows. The pure-play food delivery segment is a virtual duopoly between Zomato and Swiggy.

Last year, American ride-hailing giant Uber quit the food-delivery segment in India and sold Uber Eats India to Zomato. Lately, there have been indications of the segment bubbling up with the entry of Amazon into food delivery, and restaurants starting an “order-direct” programme without going through aggregators like Zomato.

How should investors view startups and consumer internet companies?

Analysts say each startup should be seen as a separate business, not as belonging to one basket. Some feel a company like Zomato has opportunities for big business and growth, and could be a good long-term investment.

“Food ordering has become a social need and, valuation apart, I see potential in such companies. Investors can get into them for long-term gains and not just for listing gains. Even if one doesn’t get a decent allotment in the IPO (as it will depend on oversubscription), people can buy its stock in the secondary market post-listing,” said the research head of a leading brokerage firm.

Experts advise caution before one invests in fintech companies, as banks too have enhanced their digital presence. “For companies that have not been able to clearly define their business model and keep changing their focus, investors need to exercise caution,” said a senior official with a financial services firm.

What to look for before investing?

Besides the business model and scope of expansion, it is very important to look carefully at the pricing of the issue. If the company launching an IPO is demanding a higher valuation, investors may wait to make an entry.

To get a sense of the quality of the issue and its pricing, it is important to look at the subscription by qualified institutional buyers. A very low level of subscription would mean institutional investors do not see a strong investment proposition. On the other end, a very high level of oversubscription would, in turn, also mean huge retail subscription and very little allotment, thereby making the exercise futile.

While a retail investor can apply for shares worth Rs 2 lakh in an IPO, if the retail subscription level is 50 times, it would mean the investor would only get shares worth Rs 4,000 — which, experts feel, is not worth blocking Rs 2 lakh for 10 days.

However, investors should avoid chasing the stock after a strong listing, which could often be on account of huge oversubscription. When a large number of investors sell their allotted shares within a week of listing, the share could go below their issue price. Investors must wait for a few days to understand the company and investor interest post-listing before they decide whether to invest.

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