How Does an IPO Work?

Initial Public Offering is the process of turning a privately owned company into a public company by issuing shares to investors. A corporation can issue its shares to the public for the first time through an initial public offering (IPO). When a business provides a public offering, it lists on a stock exchange and raises money through an IPO to support capital expenditures and pay off debt. It enhances the company’s brand in addition to its financial gains.

By selling new shares to the public, private companies can raise equity capital through initial public offerings (IPOs). This allows institutional and retail investors to participate in the offering and become owners of the company. The company uses the money it has raised to grow and expand, and the investors get to keep their investment profits growing.

Key Highlights

• An IPO allows a privately-owned company to go public by issuing shares, helping it raise funds for expansion, debt repayment, and enhancing brand equity.

• The IPO process involves multiple steps, including hiring an underwriter, registering with SEBI, marketing the offering, determining share prices, and finally allotting shares to investors.

• Companies launch IPOs to strengthen market value, provide liquidity for existing shareholders, raise capital for growth, and gain access to broader capital markets.

• Investing in an IPO offers the potential for significant returns, but it’s important to research the company and review the Draft Red Herring Prospectus (DRHP) before investing.

Working of IPO 

Now that you know what an IPO is, let’s see how an IPO works. The IPO procedure is regulated by SEBI in India. The procedure in detail is as follows:

Step 1: Hiring Of An Underwriter Or Investment Bank

Investment banks and financial experts are best suited to conduct the detailed research needed for a company’s IPO process. The investment bank’s underwriters oversee the whole IPO offering and serve as a go-between for the business and possible investors.

The specialists examine further significant aspects of the business and execute an underwriting contract that consists of the following elements:

• Details of the deal.
• Amount to be raised.
• Details of securities that are being issued.

Step 2: Registration For IPO

Every firm is required by the Indian Companies Act to write and publish an IPO registration statement in addition to a draft prospectus, known as a Draft Red Herring Prospectus (DRHP). The following details are intended to be included in the prospectus for investors:

• Risk elements that may affect the business’s finances.
• Use of Proceeds to disclose the purpose of capital raising to investors.
• An explanation of the industry, including the elements that can impact the company, should be included.
• A business description that provides insight into the company’s operations.
• Management specifics to give insight into the important players.
• Financial summary to include a list of the financial statements and the auditor’s report.
• Legal and other material to provide specifics about the lawsuit and other information.

Step 3: SEBI Verification

The company may file a formal IPO application with SEBI after submitting the DRHP and registration statement to the registrar. Subsequently, SEBI confirms the information disclosed by the business. An IPO date may be announced by the company if the application is accepted.

Step 4: Stock Exchange Application

Following SEBI approval, the business can apply to the stock exchanges to list its first public offering (IPO).

Step 5: Marketing

The business can start promoting its issue after the IPO is resolved. This could involve advertisements, roadshows, social media marketing, etc. Making sure as many investors as possible subscribe to the issue is the goal.

Step 6: Pricing of the issue

The company works with investment bankers to determine the ultimate price per share, whether to use a book-building offering or a fixed-price IPO before the company’s IPO goes public. The price of the company’s stock is disclosed ahead of time in a fixed-price offering. In the case of a book-building offering, investors can submit bids within the price range once a 20% price range is announced.

Step 7: The Bidding process

Investors submit their bids here based on the lot price that the company has quoted. Investors have three to five working days to make revisions to their offers within this window of time. The corporation establishes the Cut-Off price, or the ultimate rate at which the issue is sold, following the conclusion of the bidding process.

Step 8: Allotment of shares

Following the IPO’s closure, the business and underwriters determine how many shares should be awarded to each applicant. The applicants will get partial shares in 10 working days if the issue is oversubscribed.

This is how IPO works in India, now let’s see why a company launches an IPO.

Why do Private Companies Launch an IPO?

Now you have a comprehensive idea of how does IPO work? Let’s take a look at factors and motives that influence companies to issue an IPO.

Following are some pivotal reasons that drive companies to raise funds through an IPO.

Strengthen market value

The initial public offering (IPO) process entails multiple investment rounds that assist companies in obtaining capital from the market. Companies use market demand to establish lot sizes and IPO share prices before issuing an IPO. That suggests that the IPO issue price of a well-known private company will be relatively high because of the considerable demand for it in India.

Liquidity for current shareholders

Private businesses frequently lack the liquidity necessary to pay dividends to their owners. These stockholders can trade their assets and make significant capital gains after their securities are listed in the main market through an IPO.

Raising capital for business expansion

Companies can generate significant capital through an IPO to satisfy a variety of requirements. Reaching business expansion objectives is one example of this. The money raised from the IPO can be used to finance expansion projects like building new infrastructure and installing equipment.

Gain access to capital markets

A corporation receives funding from a certain set of internal investors before launching an IPO. An IPO, on the other hand, gives a business access to a far wider range of potential buyers for its shares. Companies that have access to capital markets can decide to concentrate on capital growth by issuing bonds, extra shares, and debt instruments.

The Need for IPOs

An IPO is a crucial stage in the growth of a business. It facilitates the possibility for the company to raise funds. Furthermore, it contributes significantly to the expansion of the company by raising its profile and trustworthiness. Including the public in the company’s growth is the main purpose of an initial public offering (IPO). Because pricing transparency is upheld throughout the process, the public can assess the company’s value and determine whether it is vulnerable to any negative events.

FAQs on IPO