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Chart: Proof That Investors Are Buying Into Untested Business Models -- Again


The number of companies losing money after their initial public offering is on the rise.

The Wall Street Journal reported on Friday about how companies are rushing to list their shares on US exchanges. By listing their shares, they are willing to sell a portion of their future earnings to the public (and their bankers) in exchange for a heap of cash now.

This means that not only do we have a willing public market ready to provide capital to these companies -- in many cases, these are instances of professional investors selling their claims to a less-sophisticated public.

That's not the most troubling aspect. After all, the float of shares available has been shrinking over time as companies go private and
public firms buy back their shares. A healthy IPO market can be a great sign of capital formation and reallocation.

What's troubling about this is that so many of these companies are losing money. Most of them, even.

The chart here shows the percentage of IPOs that were announced in the US over the past six months and that were losing money. In other words, it shows sustained periods where investors exhibited willingness to buy into untested business concepts.

During the early to mid-1990s, less than a third of IPOs were losing money. That started to change later in the decade, and by early
2000, nearly 80% of all new issues were money-losers.

The subsequent bear markets corrected much of that kind of behavior; then it started to reach extreme levels again in mid-2012. Into early
2013, fewer new issues were losing money, but over the past three months, this ratio has skyrocketed once more. At the moment, nearly three out of every four new issues during the past six months had no proven earnings ability.

It must be noted that Bloomberg's IPO reporting data doesn't always match up with other sources, such as Dealogic. While Bloomberg is absolutely a creditable source, there's a risk of error here. Even still, this kind of behavior is troubling.
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No positions in stocks mentioned.

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