Do high profits make for a good IPO?

A lot of people think that Wall Street is only about the soulless pursuit of profit.

While it’s obviously true that investors want to make money (why else invest?), a company’s profits are not the biggest part of the picture when it comes to picking stocks. In fact, they might not matter much at all.

Fewer than 25% of the IPOs of 2014 so far (that is, eight companies) have shown a profit. That means that at the moment, “conservative” Wall Street is willing to make a bet on the intangibles – the things that aren’t quantifiable – about 75% of the time.

Monthly returns over time for the 8 profitable IPOs of 2014Monthly returns over time for the 8 profitable IPOs of 2014

While profitability in the long term is always a goal, too much profit might be a negative signal to investors. After all, if the company is banking a lot of profits, couldn’t that be a sign that they’re not investing enough back in the company?

In reality there’s no clear formula for determining what makes a good IPO. A lot of companies, notably Amazon (AMZN) announced their IPO plans pretty early in the game, before they showed profits. The company then used the equity they raised to pursue aggressive growth instead. And their stock has been on a path of mostly uninterrupted growth since the crash in 2009.

Critics say that a premature IPO is a sign that a company is sacrificing long-term competitiveness for a quick payday. Think about it, if you’re a CEO who’s trying to keep your company in business, which option is going to look more attractive: a private investor, which gives you one new boss, or an IPO which will give you thousands?

The fact that a company isn’t doing an IPO may indicate that it can afford to take its time. There’s no rush to raise money, which not only means that the company has more flexibility in waiting for the right moment, but that it also has powerful and wealthy backers who are willing to take their time to get it right.

So it’s hard to decide what to make of an event like the King Digital IPO. With one hit game in the Candy Crush Saga (profits increased 80-fold between 2012 and 2013), King’s immense, staggering profitability is probably the most noticeable thing about it.

And yet a lot of financial analysts are incredibly skeptical – even more so than they are of a company like Amazon which, 10 years after its IPO, barely stays in the black.

It just goes to show that when it comes to understanding the market, the only clear rule is don’t try to understand the market.

We built a list of all the profitable members of 2014’s IPO class so far. Not the most profitable, just profitable to begin with. There were eight.

The List

1. Installed Building Products, Inc. (IBP): Installs insulation materials in the United States. Market cap around $312M, most recent closing price at $14.16.

The Columbus, Ohio-based maker of insulation and other home-building products was incorporated in 1977, but went public in mid-February to take advantage of a robust housing recovery.

After some losses in 2011 and 2012 IBP waited until it posted 5 consecutive quarters of profit before pursuing an IPO at a price of $11 a share. The stock’s opening day pop was a respectable 16% and currently trades even higher.

At the time of its IPO IBP’s profit margin was 0.9%.

2. Ladder Capital Corp (LADR): Operates as a commercial real estate finance company in the United States. Market cap near $1.8B, most recent closing price at $18.95.

Ladder Capital is a very profitable commercial real estate company with a profit margin of 58%. However it has not varied much since trading. Ladder Capital didn’t have much of a first day pop, and hasn’t moved significantly beyond its $17 initial offering price. However, some investors expect that to change once the mandated “quiet period” after the IPO winds down and analysts are allowed to report on the stock.

3. Lumenis Ltd. (LMNS): Develops and sells laser and light-based systems and accessories for surgical, aesthetic, and ophthalmic applications. Market cap around $412M, most recent closing price at $11.72.

Lumenis has a respectable profit margin for a growth-stage biotech stock at 6.60%. However it’s currently trading well below its expected price range of $15 to $17.

4. The New Home Company LLC (NWHM): A homebuilder, focuses on design, construction, and sale of homes in planned communities in metropolitan California. Market cap at $248M, most recent closing price at $15.09.

The New Home Company was trying to take advantage of a robust housing market and had a 2.7% profit going into it’s IPO. However the first day didn’t go well – finding the stock trading well below its target range of around $16. It closed the first day of trading around $11. However, shares have rallied since March.

5. Talmer Bancorp, Inc. (TLMR): Provides various commercial and retail banking products and services to small and medium-sized businesses, and individuals in the United States. Market cap near $950M, most recent closing price at $13.59.

Talmer experienced a decent opening day pop of around 6%. Like many companies working in financial services, its profit margins are very wide at 57%. However since it’s moderately successful first day of trading, the stock hasn’t moved very much.

6. EP Energy Corporation (EPE): Works in unconventional onshore oil and natural gas properties in the United States. Market cap at $3.9B, most recent closing price at $18.70.

EP energy is by far the largest corporation on this list with a market cap of almost $4 billion. It was spun off of a larger energy company by handful of private equity groups as a specialty driller. EP also has a large profit margin at $32.9% but its stock hasn’t performed well. It fell briefly below its IPO price even after reducing the valuation at the last minute. The stock hasn’t seen much activity since.

7. Cypress Energy Partners, L.P. (CELP): Provides environmental, water, disposal, recycling, and related services to oil and natural gas producers. Market cap around $275M, most recent closing price at $23.31.

Cypress Energy has seen steady growth since its IPO. Initially pricing shares at $20 in mid-January, the stock has risen steadily, but not nearly as fast as more coveted IPOs like Twitter (TWTR). This is despite having the largest profit margins (65.5%) of all the companies in the 2014 IPO class (so far).

8. Continental Building Products, Inc. (CBPX): Manufactures and sells a range of gypsum wallboard and complementary finishing products. Market cap near $600M, most recent closing price at $18.58.

Rounding out our list is another homebuilder, Continental Building Products, which had a very strong IPO. While profit margins aren’t particularly high at 3.9%, free cash flow is very high at the company. It’s also attempted to capitalize off the housing recovery, acquiring new facilities to grow its output. Continental Building Products generated a fairly handsome return in its first week of 24%, although the price has since stabilized.

Written by James Dennin

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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