Investors, who subscribed to small IPOs over the past three years have found, much to their dismay, that four out of five issues eroded their wealth . In the face of stark concerns over the viability of investing in such small issues, ET Intelligence Group helps you to find the right pick.

Small may not necessarily be beautiful. Not at least on Dalal Street . Of the total initial public offerings (IPOs) that were floated over the past three years to raise less than Rs 100 crore each, only a handful were able to provide meaningful returns to investors. It is true that the primary market offers an efficient alternative over the debt market to small-sized companies that need funds for business expansion.

But, not all such ventures are worth their salt. ET Intelligence Group analyses the performance of small IPOs with an intention to separate long-term winners from the momentum players. A number of smaller companies hit the IPO route in the three years, many of them with a stated objective to raise funds either to expand capacities or to set foot in new geographies directly or through acquisitions.

A lot of these issues were aggressively marketed to retail investors, appealing them to be a part of the humungous growth potential that would be unlocked. In hindsight, however, not all of them delivered what they promised to. For our study, we selected IPOs, which were launched six months ago, each of them raising less than Rs 100 crore.

We did not consider firms that were listed in the past six months since their stocks may require more time to stabilise on bourses. There were 41 such IPOs for various sectors, such as capital goods, pharma, infotech, textiles, chemicals and steel. We then compared their current stock prices with the prices at which shares were offered to the public initially or the offer price.

The analysis shows that 80%, or four out of every five, of IPOs in the sample failed to generate returns. The shares of Porwal Auto Components and Nu Tek have lost nearly 90% of their offer price since their listing. The performance of the sample companies, however, may not be comparable across the sample since the period of returns differs due to the difference in the listing dates. For instance, the stock of cotton fabric and garment maker Bang Overseas , has fallen by 84% from its offer price of Rs 207 since its listing.

This is not comparable in stricter sense to the 78% drop in Euro Multivision?s stock price, which was listed, due to the difference in the duration of listing. The statistics reveal a rather scary state of affairs in the case of smaller IPOs. While the risk of capital is an unavoidable reality of the equity markets, a success rate as low as 20% in terms of ability to give returns post listing raises questions over the quality of business and the management of these companies.

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According to the analysis, over half of the sample firms failed to report profit growth at the operating and net level in the latest quarter. There could be several factors that tend to hamper the growth of these companies. These broadly include inability to compete with bigger, established players due to the lack of either economies of scale or strong brands. Sector-related factors may also impact the growth; for instance, a demand slump in the textiles sector in the past three years has severely affected the performance of majority of textile IPOs.

Technological breakthrough could be another reason that may reduce the demand for the company?s products based on older technologies. Take, for example, Euro Multivision, which makes optical media storage devices, such as recordable compact discs (CDRs). With proliferation of flash memory based mass storage drives, Euro is facing a demand crunch amid a global supply glut for CDRs. The company reported a net loss in each of the past three quarters. Given these factors, investors need to exercise abundant caution while making investments in small IPOs.

One issue is that it is difficult to ascertain the real value of a firm?s stock at the IPO stage; that may be possible once the company is listed on the bourses. This is also true about the long-term financial performance of the IPO candidates. Most companies at the IPO stage tend to report impressive growth in sales and profits, which could be a reason enough for gullible investors to participate in their offerings.

Though this is true, there are a few checks and balances that investors can carry out even at the IPO stage. The red herring prospectus offers a load of valuable information that can help them ascertain management quality and the seriousness of business strategies of companies (see table Small IPO?s: What should you do). To help investors, who have already participated in small IPOs and incurred heavy losses, we provide a brief commentary on the current status and future prospects of such companies.

We have selected companies that raised between Rs 50 crore and Rs 100 crore.  Having talked about the IPOs that failed to add to investor kitty, it is also necessary to make a note of those which augmented investor wealth. There were a few small IPOs, which indeed fared well on the bourses after listing, despite volatile market conditions. Some of them include V Guard Industries, Kiri Dyes and Chemicals and Prakash Steelage.