Why Investors Should Care About Cinderella And IPOs

One of the allures of investing in an IPO (initial public offering) is the possibility of making a quick buck. But, the sweetness of success can very easily leave a bitter aftertaste.

In his 2000 letter to shareholders, Warren Buffet wrote (emphasis mine):

“The line separating investment and speculation, which is never bright and clear, becomes blurred still further when most market participants have recently enjoyed triumphs. Nothing sedates rationality like large doses of effortless money. After a heady experience of that kind, normally sensible people drift into behavior akin to that of Cinderella at the ball.

They know that overstaying the festivities ¾ that is, continuing to speculate in companies that have gigantic valuations relative to the cash they are likely to generate in the future ¾ will eventually bring on pumpkins and mice. But they nevertheless hate to miss a single minute of what is one helluva party.

Therefore, the giddy participants all plan to leave just seconds before midnight. There’s a problem, though: They are dancing in a room in which the clocks have no hands.

It’s likely that investors who had invested in Fabchem China Ltd (SGX: BFT) at its IPO in 2006 would have felt like Buffett’s Cinderella: The company’s shares closed with a 100% gain on its first-day of trading.

But for anyone who were enticed by even further gains and held onto FabChem’s shares from its IPO to today, they’d be sorely disappointed.

With Fabchem’s profit of RMB54 million in fiscal 2006 (fiscal year ended 31 March 2006) becoming a loss of RMB34 million in fiscal 2016, the company’s shares are today exchanging hands at S$0.188 each, some 88% lower than their split-adjusted listing price of S$1.60.

For investors, a key takeaway is to never forget the idea that at the end of the day, it’s a stock’s business results which drives its price over the long-term.

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore contributor Ong Kai Kiat does not own shares in any companies mentioned.