Intial public OFFERING (IPO)
For a company to grow, it will need funds. After a certain point, the owners or promoters will find it challenging to find funds for expansion and growth from their resources. So they look for other sources of funding. They have two options – they can either borrow from banks or go public and come out with an initial public offering (IPO). Borrowing from banks is a less desirable option because they have to pay interest, and will have substantial debt on their books. For investors, IPOs are an opportunity to cash in on a new company’s growth story. However, to invest in these, you would need an IPO account.
What is an IPO?
As we mentioned above, when a company needs funds to grow, it approaches the public for funds. It offers shares in the company to the investing public in exchange for cash. In short, the management relinquishes some part of the ownerships to investors, who become part-owners of the company.
There are several processes involved in the IPO. The company appoints underwriters to sell stock to the public, gets registration from the Securities & Exchange Board of India (SEBI) and organises roadshows to sell the IPO to the public. After that, the IPO is thrown open to investors. After the issue closes, the stock gets listed on stock exchanges like the Bombay Stock Exchange (BSE) and the National Stock Exchange (NSE) where it can be freely bought and sold.
IPO shares are reserved for specific categories of investors like high net-worth individuals and qualified institutional buyers. After allotment, the investors are free to sell the shares and make any profit if there is price appreciation.
IPOs are not just for equity alone. Companies can issue IPOs for non-convertible debentures and bonds as well. These are other ways in which companies can raise money from the public without relinquishing any control of the ownership.
From the pricing perspective, IPOs can be divided into two – fixed price issue and book built issue. In a fixed price issue, the company that is coming out with an IPO sets the IPO price beforehand and this is mentioned in the prospectus. In a book-built issue, no price is fixed previously. Instead, it is decided upon according to investors’ demand. Investors have to bid within a price band, and the difference between the floor and ceiling of the band should not be more than 20 percent.
Another concept you need to understand while opening an IPO account is the lock-in period. This is the period before which underwriters and company insiders are prohibited from selling shares in the secondary market. The timeframe ranges from a few days or a couple of years. Prices of the stock can fall sharply when insiders and underwriters sell the stock, so this is something you should keep in mind.
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