Understanding Initial Public Offerings (IPOs)

An Initial Public Offering (IPO) marks a pivotal milestone for companies and investors alike. It is the first time a private company offers its shares to the public, opening a gateway to raise capital from a wide investor base. IPOs serve as a critical mechanism for companies to access funds for expansion, research, or debt repayment, while providing investors with an opportunity to invest early in potentially high-growth firms. This comprehensive guide explores what an IPO is, the process involved, the types of IPOs, and key considerations for investors.

An Initial Public Offering (IPO) is the process by which a privately held company issues shares to the public for the first time and gets listed on a stock exchange. Through this process, a company transforms from being privately owned by a limited group of shareholders to publicly owned by anyone who buys its shares.

The primary objective of an IPO is to raise fresh capital to fund business operations, expansion plans, acquisitions, or repay debts. Additionally, going public helps improve a company’s visibility and credibility in the market, enabling easier access to capital markets in the future.

IPOs have been a cornerstone of global capital markets for centuries, dating back to landmark entities like the Dutch East India Company in the early 1600s. In India, IPOs gained significant traction post-liberalisation in the 1990s, paralleling the rapid expansion of the country’s equity markets. Since then, regulatory reforms by SEBI and technological advancements have made IPOs more transparent, accessible, and efficient, fostering greater investor participation.

In the current scenario, India’s IPO market continues to be a global leader, with numerous offerings raising substantial capital. Although there has been some fluctuation in the number of IPOs compared to previous years, the market remains resilient, supported by a strong pipeline of financially robust companies and growing retail investor interest. Key sectors driving this activity include Industrials, Real Estate, Hospitality, Health & Life Sciences, and Technology, with notable large-scale IPOs reflecting investor confidence. The market’s maturity is further demonstrated by significant merger and acquisition activity, which complements IPO momentum and highlights strong investor sentiment despite global uncertainties.

This evolving landscape underscores India’s dynamic capital markets, supported by favourable economic conditions, regulatory support, and rising investor sophistication, positioning the country as a prominent IPO hub globally.

The IPO journey is complex and involves multiple steps to ensure compliance, pricing accuracy, and investor protection.

Company Decision and Board Approval 

The process begins with the company’s board of directors approving the plan to go public.

Appointment of Merchant Bankers and Underwriters 

Merchant bankers, acting as underwriters, manage the IPO process, from documentation to marketing and share allotment.

Due Diligence and Drafting the Prospectus

A detailed prospectus, also called the Red Herring Prospectus (RHP), is prepared containing financial data, business risks, management details, and use of funds. Red Herring Prospectus excludes price and share quantity details until the price band is finalised.

Filing with SEBI

The prospectus is filed with the Securities and Exchange Board of India (SEBI), which reviews and approves the IPO.

Marketing and Roadshows

To attract investors, the company and underwriters conduct roadshows and presentations.

Price Band Determination

A price band is set, specifying the minimum and maximum price at which investors can bid.

Application by Investors

Investors apply through brokers or online platforms, indicating the number of shares and bid price within the band.

Allotment of Shares

Post subscription, shares are allotted based on demand, often via a lottery if oversubscribed.

Listing on Stock Exchange

Finally, the company’s shares get listed and begin trading on stock exchanges like NSE and BSE.

Summary of the timeline:

Overall, the entire IPO process from board approval to listing typically takes around 4 to 6 months, depending on company preparedness and regulatory review timelines.

Fixed Price IPO

In a fixed price IPO, the company sets a fixed price for its shares before the issue opens. Investors apply at this price, making it straightforward but less flexible.

Book Building IPO

This method involves setting a price band. Investors bid within the band, and the final issue price is decided based on demand, allowing market-driven pricing.

Offer for Sale (OFS)

Existing shareholders sell their shares to the public, often used by promoters to reduce their stake.

Direct Listing and Dutch Auction

While not common in India, direct listing involves listing shares without raising fresh capital. Dutch Auction is a pricing method where the final price is the lowest at which all shares can be sold.

Here are more detailed descriptions for each term:

Prospectus

A comprehensive legal document issued by the company that provides detailed information about its financial performance, business model, management team, industry risks, and how the raised funds will be utilised. It helps investors make informed decisions.

Underwriting

An agreement where merchant bankers or financial institutions commit to purchasing any unsold shares during the IPO. This guarantees that the company will raise the intended capital even if investor demand falls short, reducing financial risk.

Issue Price

The final price at which the company offers its shares to investors during the IPO. This price is determined based on market conditions, company valuation, and investor demand during the book-building process.

Price Band

A specified range of prices set by the company within which investors can place their bids during the IPO subscription. The final issue price is decided based on the bids received within this band.

Allotment

The process of distributing shares to investors who have successfully applied during the IPO. If the issue is oversubscribed, shares may be allotted proportionally or through a lottery system, especially for retail investors.

Lock-in Period

A mandatory duration post-IPO during which promoters and certain shareholders are restricted from selling their shares. This helps maintain market stability and investor confidence by preventing sudden large sell-offs.

Oversubscription

A situation where the number of shares investors want to buy exceeds the number of shares offered by the company. This often indicates strong demand and can lead to a higher final issue price.

Grey Market Premium (GMP)

An unofficial price at which IPO shares are traded in the grey market before their official listing on stock exchanges. GMP reflects investor sentiment and expected listing gains but is not regulated or legally binding.

Advantages

• Opportunity to invest early in growing companies.
  

• Potential for capital appreciation if the company performs well.
  

• Diversification of investment portfolio.
  

Disadvantages 

• Market volatility may cause price fluctuations post-listing.
  

• Limited historical data makes risk assessment challenging.
  

• Oversubscription can reduce the chances of allotment.
  

• The Securities and Exchange Board of India (SEBI) is the primary regulator overseeing IPOs in India, ensuring investor protection and market integrity.

• Companies planning an IPO must provide extensive disclosures about their financials, business operations, risk factors, and use of proceeds through documents like the Draft Red Herring Prospectus (DRHP) and the final prospectus.

• These disclosure requirements ensure transparency, allowing investors to make informed decisions before investing.

• SEBI enforces strict rules on the pricing process, share allotment, and communication with investors to prevent malpractices and promote fairness.

• After the IPO, companies must comply with continuous listing obligations, including timely disclosure of financial results and material events.

• These ongoing compliance requirements help maintain investor confidence and ensure market stability.

• The regulatory framework fosters a transparent, efficient, and trustworthy environment for capital raising through IPOs in India.

• Any individual investor holding a demat account is eligible to participate in an IPO.

• Investors apply by approaching their brokers or using online trading platforms to fill out the application form.

• Applications are submitted within the specified price band set by the company.

• Investors must ensure sufficient funds are available in their linked bank account before applying, as the payment amount is blocked during the bidding process.

• If the IPO is oversubscribed (demand exceeds supply), shares are allotted proportionally or through a lottery system, especially for retail investors.

• This allotment process ensures fair distribution of shares among applicants.

• Participating in IPOs allows investors to become shareholders early in the company’s public journey, with potential benefits from future growth and value appreciation.

• IPO share performance is influenced by the company’s fundamentals, market sentiment, and broader economic conditions.

• Strong financial health, promising growth prospects, and positive investor perception often drive high demand and initial price surges after listing.

• Some IPOs may underperform initially due to factors like market volatility, overvaluation, or adverse economic conditions.

• Long-term success depends on the company’s ability to sustain growth, deliver consistent financial results, and adapt to market changes.

• IPOs contribute to the stock market by attracting fresh capital, enhancing liquidity, and offering new investment opportunities.

• The performance of IPO shares varies widely based on multiple internal and external factors.

• Follow-on Public Offerings (FPOs): Additional share issuance by an already public company.
  

• Private Placements: Sale of securities to select investors privately.
  

• Rights Issues: Offering existing shareholders the right to buy more shares.

Understanding Initial Public Offerings is vital for investors seeking to participate in capital markets from the outset of a company’s public journey. IPOs present opportunities and risks that require careful consideration of the process, pricing, and company fundamentals. With regulatory safeguards in place, IPOs remain a significant avenue for capital raising and investment diversification.

This content is for educational purposes only and the same should not be construed as investment advice. Bajaj Finserv Direct Limited shall not be liable or responsible for any investment decision that you may take based on this content.

1. Bajaj Finserv Markets – Initial Public Offering
   

2. SEBI – Guidelines on Public Offerings
   

3. National Stock Exchange (NSE) – IPO Basics
   

4. Bombay Stock Exchange (BSE) – IPO Information
   

5. Investopedia – Initial Public Offering
   

6. Zerodha Varsity – IPO Module