How to Evaluate an IPO Before Investing: 5 Things to Check

An IPO can create a lot of excitement in the stock market. A well-known company announces its IPO, subscription numbers start rising and investors begin discussing the possible listing gains. Many people apply simply because they do not want to miss out on an opportunity.

But does a popular IPO always make a good investment?

Not necessarily.

A company may receive a strong response from investors and still list below its issue price. Even if its shares rise on the first day, that does not automatically mean it will be a good investment over the long term.

India's IPO market offers a useful example. During FY 2025–26, around 366 IPOs across the mainboard and SME platforms raised approximately ₹1.9 lakh crore. However, the average listing gain for mainboard IPOs fell to around 7%, compared with 29% in the previous financial year, according to a Grant Thornton Bharat report.

This shows why investors should not judge an IPO only by its popularity or the amount of money it raises.

Before applying for an IPO, it is important to understand the company, check whether its shares are reasonably priced and find out how the money raised will be used.

Here are five things to check before Investing in an IPO.

What Is an IPO?

An Initial Public Offering (IPO) is when a private company offers its shares to the public for the first time and gets listed on a stock exchange. Through an IPO, a company can raise money from investors to support its business plans. It also allows existing shareholders to sell some of their shares to the public.

Once the shares are listed on stock exchanges such as the BSE or NSE, investors can buy and sell them in the market. For investors, an IPO is an opportunity to become a shareholder in a company. However, applying for an IPO does not guarantee that you will receive shares or make a profit.

India's interest in IPOs is not new. In 1977, Reliance Textile Industries' IPO was oversubscribed seven times. Reliance Industries describes the issue as an important milestone in popularising share ownership in India.

Today, applying for an IPO has become much easier through online investment platforms. But the basic question remains the same: is the company worth investing in at the price being offered?

5 Things to Check Before Investing in an IPO

1. Understand the Company's Business, Not Just Its Brand

A familiar brand can attract investors, but brand recognition alone does not make a company a good investment. Before applying for an IPO, understand what the company does, how it earns money and what makes customers choose its products or services.

Consider Zomato's IPO in 2021. Many investors already knew the company as a popular food delivery platform. However, understanding the business required looking beyond its brand name.

Investors needed to consider questions such as -

• How does the company earn money?
• What does it spend on running its business?
• How strong is the competition?
• Is the company able to turn its growing business into profits?
• Does it have a clear plan for future growth?

At the time of its IPO, Zomato had a history of losses and had warned investors that it might continue to incur losses as it invested in growing its business. The example highlights an important point: a popular product or service does not automatically mean a profitable business.

Before applying for an IPO, ask yourself -

• What does the company sell?
• Who buys its products or services?
• What makes customers choose it over competitors?
• Is the business growing?
• Can it manage its expenses as it expands?

You do not need to understand every detail of the industry. But you should have a basic understanding of how the company works and what could help it grow.

2. Check Whether the IPO Is Priced Reasonably

Even a good company may not be a good investment if its shares are offered at a very high price. This is why you should check the company's valuation before applying for an IPO.

Let's understand this with a simple example.

Suppose two companies operate in the same industry. Both earn an annual profit of ₹100 crore.

However:

• Company A is valued at ₹1,000 crore.
• Company B is valued at ₹3,000 crore.

Both companies earn the same profit, but investors are paying three times as much for Company B.

Company B may have better growth prospects or other advantages. But investors should understand whether those advantages justify the higher price.

One commonly used measure is the Price-to-Earnings (P/E) ratio.

The P/E ratio tells you how much investors are paying for every rupee of a company's annual earnings.

For example, a P/E ratio of 20 means investors are paying ₹20 for every ₹1 the company earns per share.

Before investing in an IPO, compare its valuation with similar companies that are already listed on the stock exchange. Look at their P/E ratios, profits, business growth and future prospects.

However, remember that the P/E ratio is not useful in the same way for every company. If a company is making losses, its P/E ratio may not provide a meaningful comparison. In such cases, you need to examine other financial measures and understand when the company expects to become profitable.

Consider LIC's IPO in 2022. Its shares were offered at ₹949 per share but opened at ₹867.20 on the BSE on listing day, a discount of approximately 8.6% to the issue price.

This does not, by itself, prove that LIC was overvalued. Listing prices are also affected by market conditions and investor demand. However, it demonstrates why investors should not assume that a well-known company will automatically deliver listing gains.

The important question is not just whether the company is good, but whether the price being offered makes sense.

3. Look Beyond Sales and Profits

A company may report impressive sales figures but still struggle to generate enough cash or become profitable. This is why checking only revenue growth is not enough.

For example, a company may report a profit of ₹100 crore. But what if many customers have not paid their bills? The company may show a profit in its accounts while facing difficulties collecting the money it is owed.

Similarly, a business may report growing sales but spend so much on marketing, delivery, salaries or expansion that it continues to make losses.

Before applying for an IPO, study the company's financial performance over the last few years.

Pay attention to the following -

• Revenue: Are the company's sales increasing over time? Is the growth coming from its regular business?
• Profit: Is the company making profits? If it is reporting losses, are those losses reducing or increasing?
• Debt: How much money has the company borrowed? Can it manage its loan repayments and interest expenses?
• Cash flow: Is the company actually receiving enough cash from its business operations?
• Profit margins: How much profit does the company retain after paying its business expenses?

Also, check whether the company's profits include unusual gains that may not happen again. A one-time gain can make the financial results look better than the regular business performance. You can find much of this information in the financial statements included in the IPO offer documents.

You do not need to be an Accountant to understand these numbers. The aim is to find out whether the company is building a healthy business or simply reporting attractive figures.

4. Find Out Where the IPO Money Is Going

Not all IPO money goes to the company. This is an important detail that many first-time investors overlook.

An IPO can include two types of share sales: a fresh issue and an Offer for Sale (OFS).

What Is a Fresh Issue?

In a fresh issue, the company creates and sells new shares to investors. The money raised goes to the company.

It may use the money for purposes such as:

• Expanding its business
• Setting up new factories or facilities
• Repaying existing loans
• Purchasing equipment
• Meeting other business requirements mentioned in the offer documents

What Is an Offer for Sale (OFS)?

In an Offer for Sale, existing shareholders sell some of the shares they already own to public investors. In this case, the money goes to the shareholders selling their shares, not to the company. Some IPOs include both a fresh issue and an OFS.

Consider Hyundai Motor India's IPO in 2024. The issue was worth approximately ₹27,856 crore and consisted entirely of an Offer for Sale by its parent company, Hyundai Motor Company.

This meant the money raised went to the parent company selling its shares rather than to Hyundai Motor India itself.

Does this mean an OFS is a bad sign?

No. Existing investors may sell some of their shares for several reasons. An OFS does not automatically indicate that the company is struggling or that investors should avoid the IPO. However, you should understand who is selling the shares, how much they are selling and why.

If the IPO includes a fresh issue, check how the company plans to use the money. If it plans to repay debt, understand how much debt it has. If it plans to expand, consider whether the expansion makes business sense.

Do not just check how much money an IPO will raise. Find out who receives the money and what it is meant to achieve.

5. Read the Company's Risks Before Applying

An IPO offer document explains the company's business, financial performance, future plans and the risks associated with investing in it. One of the most important documents to review is the Red Herring Prospectus (RHP).

The RHP contains information that can help investors understand the company before making an investment decision. Pay particular attention to the section on risk factors.

Depending on the business, some risks may include -

• Strong competition from other companies
• Dependence on a small number of customers or suppliers
• High debt or rising interest costs
• Legal cases or regulatory challenges
• Dependence on discounts to attract customers
• Difficulty in maintaining profits as the business grows
• Concerns related to management or corporate governance

For example, when evaluating a food delivery company, you may want to understand whether it faces intense competition, whether delivery costs affect its profits and whether it depends heavily on discounts to attract customers.

These are examples of possible risks. The actual risks will differ from one company to another.

You should also check whether there are any major legal cases involving the company, its promoters or its group companies. You do not have to read every technical detail in the RHP. Start with the business overview, financial information, objects of the offer and risk factors.

The objective is to understand what could go wrong and how those problems might affect the company's future.

The RHP is not just a document to complete the IPO process. It is an important source of information for investors.

Does IPO Oversubscription Mean You Will Make a Profit?

One of the biggest reasons people apply for IPOs is the fear of missing out. An IPO receives a lot of attention. Subscription numbers rise, friends and family start applying and social media discussions create expectations of high listing gains.

But high subscription does not guarantee a profit.

Oversubscription simply means that investors have applied for more shares than the company has offered in a particular category.

It indicates demand during the IPO subscription period. It does not tell you whether the company's shares are fairly priced or whether the stock will perform well after listing.

You should also be careful when looking at the Grey Market Premium (GMP).

GMP is an unofficial indication of the price at which IPO shares may be traded in the grey market before listing. It is not an exchange-traded price, an assured listing price or proof that the company is worth investing in.

A high GMP may create excitement, but it should not replace your own research.

IPO Listing Gains vs Long-Term Investment: Are They the Same?

Before applying for an IPO, understand why you want to invest in it. There are two different approaches -

1. Applying for Listing Gains

Some investors apply for an IPO with the intention of selling their shares on listing day if the market price is higher than the issue price. This is a short-term approach. However, the stock may also list below its issue price, resulting in a loss.

2. Investing for the Long Term

Other investors apply because they believe the company has the potential to grow over several years. In this case, they need to understand the company's business, financial position, valuation and future prospects.

The decision to sell on listing day and the decision to hold a company for years require different reasons. If you are planning to hold the shares for the long term, a possible listing gain should not be your only reason for applying.

IPO Investment Checklist: 5 Questions to Ask Before Applying

Before applying for your next IPO, take a moment to answer these five questions.

If you cannot answer these questions confidently, take more time to understand the company.

You do not have to apply for every IPO that comes to the market. Sometimes, waiting until the company is listed and observing its performance may be a better decision.

Frequently Asked Questions About IPO Investment

1. How do I know if an IPO is worth investing in?

A: Start by understanding the company's business, financial performance and valuation. Check its debt, cash flow, growth prospects and the purpose of the IPO. You should also read the major risks mentioned in its Red Herring Prospectus before applying.

2. What should I check before applying for an IPO?

A: Check five important things: the company's business model, IPO valuation, financial performance, use of IPO proceeds and risk factors. These can help you make a more informed investment decision.

3. What is the difference between a fresh issue and an OFS?

A: In a fresh issue, the company creates new shares and receives the money raised. In an Offer for Sale (OFS), existing shareholders sell their shares and receive the money themselves. An IPO can include both.

4. Does oversubscription mean an IPO is good?

A: No. Oversubscription means that investors have applied for more shares than are available in a particular category. It indicates demand but does not guarantee listing gains or long-term returns.

5. What is GMP in an IPO?

A: GMP stands for Grey Market Premium. It is an unofficial indication of the price at which IPO shares may be traded before listing. It is not a guaranteed listing price and should not be treated as proof of an IPO's value.

6. What is an RHP in an IPO?

A: RHP stands for Red Herring Prospectus. It is an offer document that provides details about the company's business, financial performance, IPO price information, use of funds and investment risks. Investors can use it to understand the company before applying.

7. Can I lose money by investing in an IPO?

A: Yes. An IPO share can list below its issue price or decline after listing. Investors can lose money if the company's business performs poorly, its valuation falls or market conditions become unfavourable.

8. Should I sell IPO shares on listing day or hold them?

A: It depends on why you invested. If you applied for short-term listing gains, your decision will be different from that of someone who wants to hold the company for several years. Before holding the shares, review the company's business, valuation and future prospects.

Final Thoughts

An IPO can offer an opportunity to invest in a company when it enters the stock market. But applying simply because an issue is popular or heavily subscribed can lead to decisions based on excitement rather than research. Before investing, understand the business, check whether the price is reasonable, study its financial performance, find out where the IPO money will go and read the major risks.

And remember, you do not have to apply for every IPO.

Sometimes, the better decision is to wait, observe the company after listing or walk away if the investment does not make sense. The next time an IPO creates a buzz, do not just ask, "How much can I make on listing day?"

Ask yourself a more important question:

"Would I want to own this business at this price, even if nobody else were talking about it?"

Because investing is not about chasing every opportunity. It is about making informed decisions with your money.