When a privately held business collects money from the public and in turn gives them shares in their company. The shares are then traded for the first time in the stock market. The process is called Initial Public Offering.
Why companies go public?
Companies go public to raise money. It gives them financial capital, that they can use to clear off debts, improve the infrastructure, invest in research and development of new products, introduce new products and so on. Apart from that, the increased financial scrutiny during the process of going public will get them better debt rates when they are issuing it.
And if the company’s stocks are in demand, there is always scope for mergers and acquisitions. The terms of negotiations can be in stocks. The demand also attracts the company’s top talents as the company can offer stock options as reimbursement. The company gets credibility and visibility after it gets listed on the stock exchange
Who are underwriters and what do they do?
Investment banks send a few representatives to the company who want to sell their shares to the public in the market for the very first time. They work out the complete process for them, to ensure successful entry into the market. The amount of risk the underwriter takes depends on how he is compensated. There are two ways of underwriting.
1. Bought deal – Here the underwriters buy all IPOs from the Company and they resell it to the investing public. The compensation is the difference in the selling and buying price. The entire risk of the IPO listing outcome is borne by the underwriters.
2. Best effort deal – According to this deal, the underwriters make their best efforts to sell the issue to the investing public. They do not purchase any shares from the company. The compensation is fixed. And there is no risk for underwriters, but they will not gain anything even if the shares do well post listing.
Registration with SEBI
All companies which want to go public should fill the S-1 form with SEBI. A company and its investment bank fill in the registration statement by providing all details pertaining to the company’s finances and the IPO related information to SEBI. These are the details that need to be disclosed in the registration statement:
- The business strategy of the company
- Company’s fiscal records which include income statements and balance sheets
- The potential risks of the investment
- The stock offering
- The usage of the proceeds
- A comparison analysis of company’s financial situation and goals
SEBI will ensure the prospective investor gets all the relevant information you would need for investing in a company’s IPO. This is an organization set up in the interest of the investor to prevent from falling for fraud and scams.
Roadshow is a stage of IPO, which involves series of meetings and marketing programs with potential investors and brokers. This is conducted prior to IPO release by the Company and its underwriters. It generates the demand for the IPO. Many pre-IPO sales happen during this stage. Qualified Institutional Buyers are given shares at the price the Company executives manage to convince them.
Roadshow is purely a marketing technique, to generate interest in the IPO, to get brand publicity. If the company manages to persuade the investors to buy their shares, they will have their presence across different cities. As the investors become their brand advocates.
Lock-up periods are usually agreements between the Company offering stocks, the company’s insiders and pre-IPO stockholders which restrict them to sell their shares for a particular time period. This is to protect the public from the pre-IPO holders who want to pawn off their holdings when the IPO is overpriced, which otherwise lead to a market price drop due to the inflow of the shares.
Flipping is when the investor who gets allotted the share, dumps it off the day when the stocks get listed in the stock market, to make short term gains. Though in huge numbers, flipping can bring down the share price drastically down, it is flipping which kick-starts the trading too.