IPO

What is IPO?

IPO stands forInitial Public Offering (IPO). It is the first sale of stock by a company. IPO generally refers to the selling of the securities in the primary market and is used by companies to raise capital for expansion and thereby these companies become publicly traded enterprises.

If the same company wants to raise more money by issuing more shares it can come up with a Follow-On issue.

Why IPO is needed?

Companies need capital for their new project. IPO allows a company to tap a wide pool of investors to provide itself with capital for future growth and expansion.

For example: If a textile company wants to purchase more advanced and efficient machineries, more land to increase their production then IPO can help in generating capital.

Companies can also raise capital by bank loans but then they have to pay high interest on that loan so in such case IPO is a preferred option as it enables cheaper access to capital. However there are certain disadvantages of coming up with a IPO which includes the high cost of issue, legal and accounting cost, mandatory disclosure of information as required by the stock exchanges and also by SEBI (Securities And Exchange Board Of India).

Face value and market value of the share:

The face value of the share in India is generally Rs. 10/-, but the market value of shares is decided by demand-supply (in the stock market). 

The price at which company issues the share is called Issue Price. If the face value of the share is 10 Rs and company issues share at 10 Rs then the issue is called “At Par Issue”. When company issues the share by adding premium into face value then it called “Premium Issue”. If the company issues the share at a price lesser than face value, it is called “Discounted Issue”.

For example: the face value of XYZ company can be 10 Rs/share but if it is listed at 76 Rs/share. This 66 Rs price is called Premium Price.

There are two main ways of quoting the price of shares in an IPO:

1.      Fixed price method

2.      Book building method

What is Fixed pricing method?

The traditional method of doing IPOs is the fixed price offering. Here, the issuer and the merchant banker agree on an "issue price" - e.g. Rs.100 which is fixed at a certain price. Hence as an investor, we have to fill in a share subscription form at this given price itself.

What is Book-Building method?

Book-building is a price discovery process and is currently the most prevalent form used in IPO. Here, the issuer gives a price range to the investors and the applicants bid for the shares quoting the price and the quantity that they would like to bid at. For example: if XYZ ltd issues the IPO with price band of Rs.75-80. An investor may bid for 1000 shares at any price, say, Rs 80. If the company is reputed then the investors generally bid at the maximum price.

What is the role of investment bankers?

One of the important roles played by Investment Bankers is of Underwriters. Underwriters assist the company in procedural and financial aspects. Then they buy the whole issue from the company and resell it to the public. Underwriters also assist company to set the Initial Offering Price for the stocks. They also help the company in creating the Prospectus.

PROSPECTUS is an offer document in case of a public issue, which has all relevant details including price and number of shares being offered.It also contains the details such as

·         What is the intention behind the issue?

·         How much money the company wants to raise through the issue?

·         Where and how will they use their money?

·         What percentage of the shares should be offered and at what price?

       The company which is bringing the IPO pays commission to the Underwriters for Underwriting. Some of the underwriters in India are IFCI, IDBI, AXIS Bank and ICICI.

            SEBI doesn’t play any role in the price of the IPO as it is decided by the company itself. Companies consult Investment Bankers for deciding the price of the share. Investmentbankers also take care of the marketing of the IPO.Once the share is listed and company has raised the capital, Investment bankers guide the company about how to invest the raised capital.

Goldman Sachs, JP Morgan, Citi group, etc banks offers their services as Underwriters and Investment Bankers.

TRIVIA- the largest IPO in India was bought out by Coal India Ltd in October, 2010 to raise an amount of Rs 15000 crores.