What Is a Price Band in IPOs and How Is It Decided

Initial Public Offerings (IPOs) offer you a chance to participate in a company’s growth journey. A key benefit of IPOs is the opportunity to invest in a company at an early stage before its shares start trading publicly. However,  this does not always translate to a lower price. 

The price band set during the IPO often reflects a discounted valuation compared to future market prices. Understanding the price band is crucial for you as an investor, as it influences your bidding strategy. 

By studying the price band and company valuation, you can also decide if the IPO is suitably priced and take better investment decisions.

A price band in an IPO refers to the range of prices within which you can bid for shares during the process. The band typically includes a floor price (minimum price) and a cap price (maximum price). You can specify the price at which you are willing to buy shares anywhere within this band.

The price band serves multiple purposes, including: 

• It provides you with guidance on the price expectations of the company

• It allows for price discovery, where demand at various price points helps finalise the actual issue price

Determining the price band is a process involving the company, its merchant bankers, and underwriters. It also involves oversight from regulatory authorities like SEBI. Several factors influence this decision, such as:

• Company Fundamentals: The company’s financial health, growth prospects, and profitability

• Industry Comparisons: Benchmarked against similar companies listed or trading in the market

• Market Conditions: Prevailing market sentiment, volatility, and investor appetite

• SEBI Guidelines: Regulations that require Key Performance Indicator (KPI) disclosures (in terms of financial metrics and operational strength) and fairness

While the price band is the range for bidding, the issue price is the actual price at which shares are allotted to you. After the bidding window closes, the final issue price is decided based on demand and bids received within the price band. 

• The issue price can be at the floor, cap, or any value within the range, depending on the level of subscription and demand

• For fixed-price issues, the price band is eliminated in favour of a single fixed price, which is the issue price

The book-building process is a method where the IPO’s issue price is not fixed upfront by the firm. The company allows price discovery through bids placed by investors within a specific price band. Here’s how it works: 

• The company and its Book Running Lead Manager (BRLM) set a price band and submit a Draft Red Herring Prospectus (DRHP) with the SEBI before the issue

• Investors place bids specifying the quantity of shares and the price within the band they are willing to pay

• The company and underwriters analyse this demand to determine the cut-off price at which shares will be allotted

• The final issue price aligns closely with the cut-off price or the weighted average of bids

• This approach balances supply and demand via market-driven valuation and provides flexibility to companies in pricing shares

On the other hand, some IPOs adopt a fixed price issue, where shares are offered at a pre-decided price. In this case, the price band is effectively a single value with no range for bidding.

• You can only subscribe at a fixed price, making the process straightforward but less flexible

• Fixed price issues are common for smaller and medium-sized companies due to the small issue size

• This approach makes financial planning easier and improves participation, as 50% of this type of offering is reserved for retail investors

Stock exchanges such as the National Stock Exchange (NSE) and Bombay Stock Exchange (BSE) play a vital role in this process. They help in disseminating the price band to investors on time via the following:

• Ensuring the price band is disclosed by the issuing company two days before the subscription starts 

• Making sure the announcement is published in national and regional newspapers within the regulated timeline for the benefit of potential investors

• Displaying the band and other data on the company on their official portals 

• Brokerage platforms may pre-fill IPO forms with the price band based on information disseminated by stock exchanges

• Ensuring the company publishes a public notice and updates the price band on its website in case of any changes 

• Monitoring any changes in the price band to ensure the issuing company is complying with SEBI regulations

Price bands often reflect prevailing market sentiment. A bullish outlook can lead to a higher price band. A bearish condition may prompt companies to set lower price bands to attract investors. No matter how it is set, it impacts investor behaviour in these ways:

• Bidding Strategies: Price bands guide how you place bids in an IPO. You can opt for the floor price or aim near the cap for higher returns. 

• Comparable Peer Valuations: You can check the price band by comparing it with share prices of similar companies. A higher peer valuation may justify a stronger price band, while lower valuations may lead to cautious bidding.

The price band is a fundamental element of the IPO process that balances issuer interests and investor participation. By providing a price range for bidding, it facilitates transparent price discovery and helps companies raise capital.

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.