What is an IPO & Considerations before investing in IPO ?
IPO stands for Initial Public Offering. By the low of India, It is a process by which a privately held company becomes a publicly traded company by offering its shares to the public for the first time. A Private company held with few stakeholders may opt going public in order to meet the expansion outlook the company may have. The ultimate objective for going public in most of the cases is to gain access to additional funds & resources to achieve growth ambitions & to implement a fair operating process based on the authority guidelines.
To achieve the objective company needs to be listed on the stock exchanges such as BSE & NSE in India and the first step is issuing an IPO post compliance to SEBI guidelines.
How does a company offer IPO?
To issue the IPO the firm needs to hire an investment banker to handle the filing procedure of the IPO. The investment bank and the company work out the financial details of the IPO in the underwriting agreement etc. A registration request generally filed with SEBI in consultation with the wealth manager hired by the institution for the filing process, post filing SEBI scrutinizes the disclosed information & SEBI allows the issuance of IPO along with date if the disclosed information found to be compliant as per guidlines.
Why does a company offer an IPO?
- Offering an IPO is a money-making exercise. Any company is interested to offer an IPO or in other words willing to go public will mostly have one or more of the below objectives
- Business expansion
- Additional Offering
- Infrastructure revamp
- Loan repayment etc
- Once the company is listed on the stock exchange, the stocks are available to the traders, which increase liquidity. This itself opens a wide range of possibilities to the company & reduces OPEX issue by means of
- Employee opex optimization by compensating by introducing employee stock option.
- Introducing stock options etc.
- A company going public means that the brand has gained enough success to get its name flashed in the stock exchanges. It is also a huge advantage from branding perspective. This brand is now accessible to millions of people without any associate branding cost. This also demonstrates credibility of the company in one way.
Should we invest in an IPO?
The answer to this is again a subjective. Deciding whether to invest on IPO or on a particular IPO should be a individual decision depending on the type of investor you are. If you are willing to take a bit of risk, IPO is one of the best instruments in my opinion subject to careful evaluation of the companies credibility in the past years which includes a thorough evaluation of the complete portfolio.
Who underwrites an IPO application ?
The underwriting is normally carried out by the investment banks or brokerage firms dealing in the specific areas. The firm also helps the company in carry out all the necessary procedure, documentation & compliance for the IPO application. Getting an approval from SEBI is hugely dependent on the level of analysis, documentation & compliance scrutiny performed.
What is lockup period ?
It’s observed many time some IPO prices goes down immediately after it goes public & then it climbs up once trades start trading actively, off course this is not always true. Most of the time reason for this fall of the share price is due to the lockup period. A lockup period is a contractual caveat which refers to a period of time the company’s executives and investors are not supposed to sell their shares.
The potential thought process behind the contractual caveat is a potential way to protect investors interest as well as a theory to prevent any mal intentions.
What is Flipping ?
There are investors whose primary focus to buy & sell the IPO as soon as the IPO is listed on the stock exchange to access some quick gain out of the investment, these type of investors often don’t want to hold the money on a particular stock, they are termed as Flippers. Flipping initiates the first trading activity.
Things you should know before investing
- If you have bought an IPO for the company, you are exposed to the fortunes of that company. You get impacted directly with the company’s profit or loss if you hold the stock for a long time.
- It is this asset of your portfolio which has the highest potential to reward the returns. You need to be vigilant on the stock trends if you retain the stock. Remember stocks are subjected to the volatility of the markets. You can make maximum profit if you follow the market.
- You should know that a company which offers its shares to the public is not indebted to reimburse the capital to the public investors.
One should thoroughly evaluate potential risks and rewards before investing in an IPO. If you are new to the IPOs, then read through the articles, make a thorough evaluation of the company, can approach your financial adviser if required before investing in any IPO, for that matter stocks.
Have outlined my thoughts based on my limited knowledge & based on market research. Please feel free highlight any major points might have been missed. I will try adding those areas in a separate article.