What is IPO in India?

What is an IPO?

IPO or initial public offering is the process of offering shares of a company directly to the public. The public can buy the shares of the company. This is how they obtain a listing on the stock market (private companies may issue stocks but aren’t provided to the public in the form of an IPO) .

 

What is the process to launch an IPO?

•  When a company wants to get listed, they advertise to its underwriters by soliciting private bids or by making a  public statement to generate interest.

•    The IPO process is led by the underwriters chosen by the company. 

 

Steps to launch an IPO:

1. Hiring an Underwriter or Investment Bank:

To start the initial public offering process, the company approaches an investment banker and banker who acts as an underwriter for raising the funds. The investment bank studies the important financial parameters of the company and signs an underwriting agreement. The underwriting agreement has the following components:

·       Details of the deal

·       Amount to be raised

·       Details of securities being issued

2. Registration for IPO:

A registration statement and a draft prospectus are created by the company and the investment bank of their choice.

The company has to submit the Red Herring Prospectus (also known as the RHP) document that the issuer and the underwriters use to market the initial public offering.

All information about the business except the number of shares and their price will be provided in this document. This document also provides information to the investors about where the money raised through it will be used. This would enable the investors to trust the developmental process of the business.

RHP is the most important document that an investor can use to evaluate the offer. 

3. Verification by SEBI (The Securities and Exchange Board of India):

Market regulator, SEBI then verifies the facts provided by the company. Once it is verified, the application goes through an approval process and a date is fixed for announcing its IPO. 

4. Submit the Application To the Stock Exchange:

The Stock exchange receives an application form from the company with its initial issue.

5. Create awareness in the market:

Before a company decides to go public, the company advertises the impending IPO in the market all across the country through road shows, company events etc.

This is basically to attract potential investors so that once the company goes public, investors can pour in and buy their shares.

6. Pricing of IPO:

The Pricing of the IPO can finally begin either through 

·       Fixed Price wherein the stock price of the company is announced beforehand or

·       Book Binding Offering wherein only 20% of the price range is announced and the remaining would be filled in              by the investors who can place their bids as per the minimum number of shares to be purchased.

Investors can relook at their bids since the booking is usually open from three to five working days. 

After the bidding process gets over, the company will determine the Cut-Off price will be evaluated by the company. 

 Cut-off price= Final price at which the issue will be sold.

7. Allotment of shares:

The number of shares to be allotted to each investor will be decided by the company and the underwriters once the share price is fixed. It takes around 10 days from the last bidding date for the allotment of the stocks to the investors. 

 

 Advantages and Disadvantages of IPO:

Advantages	Disadvantages
Increased capital: It provides a company with access to the capital markets, allowing it to raise large amounts of money to fund growth and expansion.	Increased cost: It is an expensive process, and companies must spend a lot of money to prepare for the offering.
Greater liquidity: It also gives existing shareholders a way to cash out their investments, providing greater liquidity for the stock.	Loss of control: It also dilutes the ownership of the company, resulting in a decrease in control for existing shareholders.
Improved visibility: It gives the company greater visibility, making it easier to attract customers, partners, and investors.	Compliance: Companies must comply with a number of regulations and requirements in order to go public, which can be time-consuming and expensive.
Prestige: It also provides the company with prestige and recognition, which can help attract more investors and partners.	Risk: Going public also carries a certain level of risk, as the company is now subject to the scrutiny of the public markets.

 

 Eligibility for IPO:

Below are the eligibility criteria for a company to go public:

 

·       The company must have a minimum net worth of Rs. 3 crores.

·       It must have been in business for at least 3 years.

·       The company must have made profits in at least 2 out of the 3 most recent financial years.

·       At least 25% of the company must be owned by the public (i.e. not held by promoters or related parties).

·       The audited financial statements for the past 3 years must be clean, with no qualifications or exceptions.

·       It must have a minimum paid-up capital of Rs. 1 crore.

·       The net profit in the last 3 years must be positive.

·       The company should not have defaulted on any loan and/or overdraft from any bank or financial institution.

 Why do companies launch an IPO?  

 

There are various reasons why a company decides to launch an IPO. The most important reasons are given below:

1. Raise Capital for Expansion:

One of the most significant benefits of an IPO is that it enables a company to raise capital. This capital can be used to support growth and development, such as research, infrastructure development, and business expansion.

2. Value Assessment:

Once a company’s shares are listed on the stock exchange, its value is determined by what investors are willing to pay. This helps outsiders understand the company’s current market value. Value assessment is also essential for companies planning future growth, mergers, and acquisitions.

3. Increase Credibility:

A company’s credibility often improves after going public. Its financial data becomes available to the public under strict regulations by SEBI, which enhances transparency and builds trust among investors.

How Can You Benefit from an IPO?

1. Get in on the Action Early:

By investing in an IPO, you can enter at the “ground floor” of a company with high growth potential. An IPO may provide an opportunity for rapid profits in a short period while also helping you grow your wealth in the long run.

For example, if you invest in a young company offering disruptive technology and it successfully captures the market and generates profits, you can benefit from its growth.

2. Long-term Financial Goals:

IPO investments are a form of equity investment. Historically, equity markets have delivered returns of around 12–15% over a 5-year period. Keeping long-term financial goals in mind, investing in IPOs can help you achieve better returns over time.

The cumulative returns can support major life goals, such as buying a house. Additionally, the Indian IPO market has been growing steadily—for instance, in 2017, about $11 billion was raised through IPOs.

3. Transparency:

When you invest in an IPO, you automatically become a shareholder in the company. This allows you to be connected with the company’s performance, goals, and profitability.

The price of each security is clearly mentioned in the IPO documents, ensuring that you have access to the same information as larger investors. You also gain access to financial statements and audit reports, which are publicly available and shared with shareholders.

How is an IPO priced?

An IPO is priced through a process called book building. During this process, the investment bank managing the IPO (called the “underwriter”) will consult with the company issuing the shares and gauge investor demand for the stock. The underwriter will then set a “price range” for the stock, which is a range of prices that investors are willing to pay for the shares. Once the price range is established, the underwriter will then set the final offering price, which is the price at which the shares will be sold at the IPO.

 

Performance of IPO:

IPO performance can be dependent on a few factors. Let’s have a look.

Timing: 

The timing of an IPO is critical to its performance. Companies should consider the current market conditions and the macroeconomic outlook when deciding when to go public.

 

Pricing: 

The pricing of an IPO should be strategically set to be attractive to potential investors. Companies should evaluate current market conditions, competition, and the potential for future growth when determining the IPO price.

Flipping: 

It is the practice of quickly buying and selling shares of a newly-listed stock to take advantage of short-term price movements. Investors often do this to capture quick profits and capitalize on the hype surrounding the new offering.  Additionally, it can be difficult to predict the performance of a newly-listed stock and investors may end up losing money if they do not properly analyze the fundamentals of the company.

Promotion:

Companies should promote the IPO in order to generate interest and attract investors.

This may include advertising, public relations campaigns, and other types of promotions.

 

 

Management: 

The management team should have a deep understanding of the industry, the company’s products, the potential markets. They should also have a strong track record of success and have a well–defined strategy for future growth.

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