Why do institutional investors stay away from small cap companies?

This is always a question when someone is doing an IPO or other fund raising exercise. This is especially so when they have a very good story to tell but small number of investors turn up. This is always a problem for smaller cap companies. Why?

The reasons is probably as follows:

1. Every investor's appetite is different. An investor with US$200mio of funds on hand would want at least US$5mil of investment to call it sizeable. they do not want to invest in a small company with say market cap of $10mil. Their position will be too significant where they can not get out so easily. That's why certain investor wants to invest in a company with a certain minimum amount of market cap. In the case for smaller company, it should find investor with relatively smaller size and appetite of investment amount and works its way from small cap to mid cap to get the attention of the investors. Some really small cap must concentrate on retail investors only.

2. Every investor has his/her own compliance office. He needs to consult with his/her compliance office and if he fails to do so then the investment will be scrapped no matter how good and potential the project is.

3. Some investors avoid investing in small cap because of their perceived lack of quality of small cap companies. Some of the belief are as follows:

a. lack of transparency of management
b. lack of adequate research by fund houses and brokers
c. lack of financial muscle
d. low liquidity
e. high volatility

The management must work hard to deliver values and continue to comply with the good governance to avoid the above perception. One thing to remember is that many of the larger cap companies nowadays are small cap 10 or 15 years ago.

4. The Company' share is not liquid enough to buy. Investors sometime require that the company would have certain minimum average trading volume so that their entering and exiting strategy would not be so difficult. The company management should continue to deliver liquidity in the market and performing frequent corporate actions which give value to investors.

5. In many cases for small cap, management is too busy concentrating on operation and they can not look after investor relations and proper communication of plans.

just some of my thought today....

Cheers,
SS