Travel insurer the latest to join IPO rush

The initial public offering (IPO) of Freelancer (ASX: FLN) last month blew investors away as the stock rose to a peak of 500% of its offer price before finishing the day over 100% higher. The returns on this share have investors excited for a couple more big IPOs this month, namely Dick Smith (ASX: DSH), which launches today, and Nine Entertainment (ASX: NEC) in a few days’ time.

The latest enterprise to be listed is insurance group Cover-More, which is owned by private equity group Crescent Capital Partners and fills around 40% of the travel insurance market in Australia. Cover-More has bold plans to expand into the Chinese and Indian travel insurance markets with an eye on acquisitions in these countries.

According to management, the business has earnings before interest, tax, depreciation and amortisation (EBITDA) growth at a compounded annual growth rate of 27% since the beginning of calendar year 2008. EBITDA is forecast to grow again this year by 16% to $47.3 million in 2014.

Cover-More also owns a company that provides overseas emergency medical assistance, and does not assume any risk for insurance claims as these are covered by underwriters. There are a number of risks outlined in the prospectus, but the main ones appear to be increased competition, exchange rate volatility and reputational damage, each of which is a very real threat.

On the flip side however, Cover-More’s growth prospects also appear fairly likely with the increasing material wealth of India and China in particular. Overseas expansion could expose Cover-More to members of the travelling middle class in these two nations; the population of which should explode over the next 10 to 20 years.

The one question everybody should ask when viewing an IPO is this: Why is this great company with such great prospects for growth being sold?

It’s different in the case of Freelancer, where the founder and other initial investors retained 88.6% of the shares on issue. However Crescent Capital Partners is only retaining 13% of the shares, down from the 82.7% it holds currently. Of the shares to be issued, an additional 4.6% (down from 10.7%) will be held by executives.

What concerns me most is the fact that Crescent will only hold its remaining 13% until ‘at least after the FY 2014 year results’ (which is less than a year away). Cover-More shares are also priced at 23.1 times their pro-forma earnings for 2014, making them appear quite expensive which could indicate a cash grab given the number of shares (260.6 million) being sold.

Foolish takeaway

Despite the shining growth figures of Cover-More in the past five years, its predicted 2014 growth and growth in the global travel industry generally, Cover-More is not an IPO I would advise subscribing to. It concerns me that its owner is selling out of the business almost entirely, and that management appears to be decreasing its shareholdings.

When it’s your money involved, it is better to be cautious rather than to get caught up in the excitement and get bitten. The lukewarm launch of insurance comparison i-Select (ASX: ISU) earlier this year (now trading at about two-thirds of its offer price) is a sign of what can happen if the share market doesn’t value a company the same way its owners do.

With Cover-More I can virtually guarantee that you won’t see a strong first-day spike a la Freelancer, and given that the shares appear quite expensive for a previously unlisted company, you may be able to pick them up at a significant discount after a few days or months.

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Motley Fool contributor Sean O’Neill doesn’t own and hasn’t applied for shares in any company listed in this article.

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