While browsing through news portals, we get to hear that a renowned private company is transforming into a public corporation through the launch of IPOs. Now, a fresher in the equity world might be wondering ‘what is IPO in the share market?’. Well, IPOs help in raising capital for firms by offering shares to the public. It is a crucial process for private investors as they get an opportunity to earn gains through share premiums from public investment. At the same time, external investors also get benefitted in the process. They can make a profit and create wealth through trading in IPO shares. It sounds interesting, right? Here is a uniquely curated content to know more about the application processes and the meaning of IPOs.
What is the full form of IPO?
The full form of IPOs is ‘Initial Public Offerings.’ When a private company decides to raise IPOs, they need to select underwriters and stock exchange for releasing shares and getting them traded publicly. The Dutch were the pioneers of issuing IPOs during the development of the Dutch East India Company. It helps companies to diversify their business, improve infrastructure, and repay loans. They also get listed on the stock exchange through IPO updates.
Overview of the IPO process in India
Now, that we have formed an outline idea about the meaning of IPO, let us know about the IPO allotment process in detail. There are 5 stages of the IPO process timeline, and it can take six months to a year to complete it.
- Selection of an investment bank
- Regulatory Filings
- Pricing
- Stabilisation
- Transition
1st Stage: Selection of an Investment Bank
The IPO issuing company must at first select an investment bank to provide underwriting services. Most firms prefer financial institutions having proven reputation, industry expertise, high-quality research, and distribution facilities (disburse issued securities to institutional investors) during the election of the underwriter.
2nd Stage: Regulatory Filings
After the selection of the investment bank, the IPO issuing company starts with the underwriting process. Here the underwriter acts as a broker between the company and investors to sell the first set of shares. The underwriting process can go ahead through the following arrangements.
- Firm Commitment: Here, the underwriter (bank) purchases the complete set of shares from the IPO issuing company and resales them to investors (public). The underwriter also guarantees a specific price to the company.
- Best Efforts Agreement: Here, the underwriter does not guarantee any sum of money. However, they sell the shares on behalf of the company.
- All or None Agreement: Here, the company either sell all the sales or cancel the IPO proposal.
- Syndicate of Underwriters: Here, the company issues IPOs with the help of multiple banks. One of the financial institutions act as lead or book-running broker and develop a syndicate of underwriters. Each of these banks then sells a part of the IPOs and thus diversify the risk among them.
Documents required for the underwriting process
Engagement Letter: The engagement letter includes a reimbursement clause and a gross spread. In the reimbursement clause, the company guarantees to cover all expenses if they withdraw the IPO during the diligence, registration, or marketing stage.
Gross spread = Sale price of IPOs by underwriters – Purchase price of IPOs bought by underwriters.
Letter of Intent: The ‘letter of intent’ expresses the proposal of the company and the underwriter to enter an underwriting agreement. It also states that the company would completely cooperate with the bank in the sale of shares. They would provide all crucial information regarding the firm in IPO sale process. The letter also validifies that the bank can go ahead with a 15 per cent overallotment option. However, the ‘letter of intent’ does not state the final offering price.
Underwriting Agreement: After drafting the ‘letter of intent’, the company and the bank form the Underwriting Agreement, which contractually bound the bank to buy IPOs from the company at a designated price.
Registration Statement: The registration certificate contains all the crucial information concerning IPOs, including financial statements of the company, management, legal proceedings faced by the concern, and the ticker symbol used on the stock exchange. Every registration certificate has two parts- prospectus (will be made public) and private filling (may not be public).
Red Herring Document: Finally, the underwriter drafts the ‘Red Herring Document’ consisting of all details about the IPO issuing company, except the IPO release date and the offer price. Sometimes the underwriter may also indulge on roadshows (dog and pony show according to share market), where they market the shares to institutional investors and assess demand.
3rd Stage: Pricing
The Securities and Exchange Commission (SEC) approves the IPO and fix a date for its release. The pricing of IPOs usually gets settled a day before the effective date of publication. It is a very crucial step, as it decides the amount which the company will raise for itself through the release of shares. The results of roadshows play a significant role in the pricing of IPOs.
4th Stage: Stabilisation
In the stabilisation process, the underwriter offers analyst recommendations and develop a market for shares. The bank also carries out after-market stabilisation if there is an imbalance of orders. They usually buy the shares at the offer-price or below it to stabilise it. The stabilisation process goes on only for a short time-frame, during which the underwriter trades and influences the IPO price.
5th Stage: Transition
The transition to market competition is the ultimate step of the IPO release process. It takes place after 25 days of the first public offering when the “quiet period” gets over. After the transition stage, investors no longer need to rely solely on the prospectus for information regarding the IPO issuing company. At this stage, underwriters can offer assessments concerning the valuation of the company.
What is IPO investment?
In the IPO investment process, interested investors apply for IPOs online. However, you cannot place an IPO order directly through your broker. Usually, banks help in investment in IPOs through Application Supported by Blocked Amount (ASBA).
How to invest in IPOs in India
IPO investment can be a tricky affair. You may have a good chance of earning high returns if your selection process is sound. At the same time, you may also lose considerably if the company fails to perform well. Have a look at this checklist before applying for an IPO order.
Company Background Check
Analysing the company background can every be a tricky job as it is the first time it is being listed on the stock exchange. There are minimal data available concerning the financial details, managerial team, and future planning. Scrutinise the prospectus of the firm in the ‘Red Herring Document’ to gain an insight into their upcoming plans regarding the fund utilisation from IPOs.
Assess the Underwriter
The underwriter also plays a crucial role in the marketing and success of IPO launch. Check the background of the investment bank, who is undertaking the share release process on behalf of the company. If the underwriter is a reputed concern with a long history of successful IPO endorsements, then you can go ahead with the investment.
Lock-up Periods
Check the lock-up period for IPOs. It is the time frame when the company’s executives and investors do not sell their shares. However, in many cases, after the closure of the lock-up period, there is a deep downtrend in share prices.
How to apply for an IPO online?
Investors can place orders for IPOs through Application Supported by Blocked Amount (ASBA). In this process, funds get blocked in your account for the purchase of IPOs. Only after you get an allotment, the money gets debited from your account. The Securities and Exchange Board of India (SEBI) have made application of ASBA compulsory for the purchase of IPOs.
You can apply for IPOs online through the following process:
- At first, log-in to your Demat account.
- Select the IPO/e-IPO tab from the investments section.
- Fill-in necessary financial and bank account details and go ahead with the verification process.
- Next, you will get guided to the ‘Invest in IPO’ page.
- Select the IPO which you feel will offer the maximum return.
- Input the total number of shares and their ‘bid price’.
- Carefully go through the ‘Terms and Conditions’ and click on ‘Apply Now’ to complete the IPO application process.
What is an FPO in the share market?
The FPO full form is ‘Follow-on Public Offering.’ It is the issuance of additional shares by a firm already listed on an exchange. Companies release FPOs after the launch of IPOs, and they are of two main types- dilutive FPOs and non-dilutive FPOs. In the former, the company’s Board of Directors enhances the share float level by launching additional equities in the market. It helps in raising funds for the business or reduce the debt burden. The non-dilutive FPO process in India remains concerned with the selling of existing shares previously held by company directors. They are also known as secondary market offerings as they do not offer any advantages to existing shareholders or the company.
Difference Between IPOs and FPOs
Now that, you have understood the IPO and FPO meaning, let us have a look at IPO vs FPO differences.
| Characteristics | IPOs | FPOs |
|---|---|---|
| Meaning | A private company releases IPOs when it transforms into a public limited company and gets listed on a stock exchange for the first time. | A publicly-traded enterprise can release FPOs after the launch of IPOs for subsequent public investment. |
| Full-Form | Initial Public Offering | Follow-on Public Offering |
| Issuer | Unlisted private firms | Listed public limited companies |
| Raising Capital | First time from investors | Subsequent contribution from investors |
| Objective | Raising capital for the first time through public investments | Raising funds through subsequent public investments |
| Risk | Higher than FPO | Lower than IPO |
| Profit | Higher than FPO | Lower than IPO |
| Predictability | Less predictable than FPOs | More predictable than IPOs |
| Types | Equity and Preferred shares | Dilutive and Non-Dilutive |
So, this was all about the IPO and FPO. Start investing in these shares and create a fortune for the future.
