When a private company decides to go public, it does so by offering its shares to investors via an Initial Public Offering (IPO). It is the first sale of shares by a company to the public, institutional investors and HNIs. An IPO market is categorised as a primary market where firms look to raise long term capital
IPO, in essence, is the process by which a private company turns public and gets its name listed on the stock exchange. The management of such companies are confident of their business model and are expecting that the IPO will elicit the interest of retail and other strategic investors while also being ready to undergo the rigours of the regulator.
Before we discuss how an IPO works, let’s understand what makes a company eligible for an IPO. For listing on the National Stock Exchange (NSE) or the Bombay Stock Exchange (BSE), a company should have a minimum paid-up capital of Rs 10 crore. Besides, the post-issue market capitalisation should not be below Rs 25 crore.
How does an Initial Public Offering (IPO) work?
A company aiming to go public hires an underwriter to handle the IPO. The underwriter and the company work out the financial details of the IPO in the underwriting agreement. Later, along with the underwriting agreement, they file the registration statement with the regulator. SEBI scrutinizes the disclosed information and after verification allots a date to announce the IPO.
What is the process of filing for an IPO?
- A merchant banker or Book Running Lead Manager (BRLM) underwrites the company’s shares, buying all or some of the IPO shares and selling them to the public. The bank helps the company with the IPO process, assisting with the due diligence, DRHP and IPO roadshow. The underwriters bear the risk of the transaction.
- Companies have to file for an IPO with the market regulator, SEBI. The application needs to include the documents listed for the IPO Vetting Process. It includes DRHP, details of the promoters and the company’s annual reports. The initial listing fee is Rs 50,000. The subsequent annual listing fees depend on the paid-up share capital.
- The underwriters then market the IPO to potential investors. Usually, prices are set below the actual price to create excitement among investors. Marketing is typically done through advertisements to inform people about the company’s offering. This process is also called the IPO roadshow. Subsequently, the price band is decided upon and the merchant banker or underwriter of the share offer decides the IPO price.
- For three days, the company’s shares are open to the public for subscription. On a listing day, the company begins trading on the stock exchange at a listed price, which is based on market demand for the issue.
Advantages of filing an IPO
There are many advantages of a company choosing to change its status from a privately held to a public-listed company:
- The opportunity to raise long-term capital from a wider pool of investors.
- Mergers and acquisitions are easier for listed firms
- Listed firms gain visibility. They find space in the newspapers as investors keep looking for opportunities.
Disadvantages of filing an IPO
- Listed companies are required to make their financial statements and accounts open to the public and comply with market regulations.
- The company also has to bear more costs for accounting, marketing, and legal issues and services.
Things you should know before investing in an IPO
- If you invest in an IPO, your investments are directly linked to the profits of that company.
- This type of investment carries a higher risk and can offer huge returns too.
- You should be aware that a company that offers its shares to the public is not indebted to reimburse the capital.
- Usually, it is good to have some experience before investing in an IPO. Taking advice from a personal finance manager before investing may help you avoid trouble.
- You require a Demat account to invest in an IPO. You can look for a brokerage firm that offers a free Demat account and start investing.
Conclusion
An IPO is a closely watched event. It may be a huge profit-making opportunity or turn out to be a loss-making investment. IPOs are known for having volatile opening day returns, which can attract investors looking to benefit from the discounts. Over the long term, an IPO’s price usually settles into a steady value. You can open a free Demat account and bet on the latest IPO hitting the markets.