An IPO, or Initial Public Offering, is the process of a company offering its shares to the public for the first time, transitioning from a privately held entity to a publicly traded one. This transition is of great significance as there’s an increased access to capital, more visibility, and greater liquidity.
From the POV of an investor, an IPO is an opportunity to invest in companies with potential for skyrocketing growth. However, an IPO can be subject to market fluctuations. An investment in an IPO should be backed by prior research and an understanding of how it works. Well, you are in luck because we are here to illuminate you on everything about and around IPOs. So let’s dive in…
IPOs are categorized into two primary types:
1. Fixed Price Offering: A company sets a predetermined price for its shares, and investors can buy at that price. This is called a Fixed Price Offering. Such an offering is rare and is usually used for smaller companies or in relatively stable market conditions.
2. Book Building Offering: This is the garden variety IPO. In a book building offering, the company sets a price range for its shares, and investors submit bids for the price they are willing to pay. The final offering price is driven by investor demand. This method is more flexible and helps the company achieve a fair valuation.
There are several steps involved in the complex process of an IPO. Ease your forehead creases, because here is a simple breakdown of the key stages in an IPO.
Preparation: A company decides to go public and investment banks are appointed as underwriters.
DRHP Filing: The company files a Draft Red Herring Prospectus (DRHP) with the Securities and Exchange Board of India (SEBI).
Stock Exchange Selection: The company chooses the stock exchange where it wants to list its shares and submits an application to that exchange.
Roadshow: The company and its underwriters conduct a roadshow to promote the IPO to potential investors. This involves meetings with institutional investors, retail investors, and analysts.
Pricing: As a result of investor demand and market conditions, the offering price is determined. The final prospectus, aka the Red Herring Prospectus (RHP), is issued with the offer price range.
Allocation: Shares are allocated to various investor categories, including Qualified Institutional Buyers (QIBs), Non-Institutional Investors, and Retail Individual Investors. Bidders can apply for shares within the specified price range.
Listing: The company's shares are listed on the selected stock exchange.
Trading Commences: On the day of the IPO, the shares become available for trading in the secondary market.
Lock-up Period: Promoters and certain shareholders are often subject to lock-up periods during which they cannot sell their shares to maintain stability in the stock price.
Post-IPO Reporting: The company is mandated to provide regular financial and operational updates to the stock exchanges and investors.
Stabilization: In some cases, underwriters may engage in stabilization activities to support the stock's price during the early trading period by purchasing some of company’s shares .
While IPOs can be great opportunities for investments, caution must be heeded as they also come with risks. Here are some tips to help you navigate the IPO market:
Thorough Research: Before investment, study the company's business model, financial performance, management team, and industry outlook.
Consider the Market Conditions: Be aware of the overall market environment as it can impact the success of an IPO.
Diversify Your Portfolio: Don't put all your eggs in one basket. Diversify your investment portfolio to manage risk and reduce your exposure to a single company.
Have Realistic Expectations: IPOs can be volatile, and there's no guarantee of immediate returns. Be realistic with your expectations and brace yourself for the ups and downs.
IPOs can be exciting and potentially rewarding as an opportunity to invest. But make sure you are thorough with your research of the company you are investing in. And if you want further advice, JJ Tax is always there to help you invest. We boast a team of expert CAs who are there to advise you on any investment you may be inclined towards. Book a free call now!
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