What is an Undersubscribed IPO?
When a company’s initial public offering (IPO) doesn’t get sufficient investors for the shares offered, it is known as an undersubscribed IPO. One of the reasons for this can be a lack of investor confidence in the prospects of the firm or adverse market conditions. Moreover, an undersubscribed IPO may also affect the share price when trading begins. Furthermore, for investors, identifying an undersubscribed IPO is critical as it could serve as a sign of possible risks or reduced interest in overall investment appeal. To help you understand better about it, this blog will discuss what happens if an IPO is undersubscribed, its benefits, and more.
Key Highlights
- When there aren’t enough investors willing to buy an IPO, it is said to be undersubscribed. This may happen due to retail investors not having interest or confidence in the company’s prospects.
- A company may lower its share price to attract more buyers and sell all the shares, which may affect its expected sales revenue.
- An undersubscribed IPO can help control share prices and meet investor expectations better. However, it also comes with risks like lower income, fewer growth opportunities, and financial instability.
- Factors like high issue prices, absence of experience, lock-in periods, poorly done marketing, or prevailing market sentiments that make it an incompetent idea among investors.
Table of Contents
Understanding Undersubscribed IPO
An undersubscribed IPO is when a company makes its shares open to the public. However, there are not enough investors interested for them to buy these shares. In other words, the demand is less and the supply is more. Moreover, IPOs that are undersubscribed may either be postponed or cancelled.
An IPO might be undersubscribed because people aren’t interested in buying the company’s stock. This can happen as investors might have concerns about a company’s financial health, or they think the stock price might drop after it starts trading.
It is also possible that potential buyers would rather wait than buy. This is because they doubt the profitability potential of the company.
For example, an IPO that launches 2,000,000 shares and receives 80,000 subscribers is said to be undersubscribed.
What Happens If An IPO Is Undersubscribed?
An undersubscribed IPO has several possible reasons that affect both the firm and investors. Let’s discuss them in brief:
The price of the shares may get reduced by the company due to undersubscription of an IPO. This is done to ensure the complete sale of shares that may not yield as much income as the firm expected.
There is also an alternative for the company to negotiate with its underwriter before the IPO. Generally, underwriters set an initial public offering (IPO) price while buying the remaining stock that has not been bought due to low interest.
Moreover, despite uncertain situations, companies still wish for more positive results. They wish that the IPO price increases at the time of listing since several factors influence the final price.
Benefits Of Undersubscribed IPO
There are a few benefits of an undersubscribed IPO. Let’s discuss them in brief:
Better Share Price Control
The company can regulate its share price more effectively with an undersubscribed IPO. Price increases can be quick and uncontrollable when demand is excessive. Whereas, when there are fewer buyers, the company can hold a constant and practical share price.
Meeting Investor Demand
An IPO that is not fully subscribed ensures that every potential investor receives the shares they want. It prevents circumstances in which some investors are excluded or forced to pay higher prices than what they had planned for their shares.
Disadvantages Of Undersubscribed IPO
The consequences of an undersubscribed IPO on a company may have various implications including financial goals and market perception. Let’s discuss them in brief:
Decreased Revenue
If an IPO does not attract the expected level of subscriptions, the amount generated by the company could be less than due to reduced interest of investors in its stocks and possibly its products or services.
Limited Growth Opportunities
When there is little need for people then it is difficult for companies to expand and take an additional portion of the existing market.
Increased Competition
If the company has trouble attracting investors, it may have to face greater competition from other companies that provide similar products or services.
Decreased Market Visibility
Due to lack of interest in the IPO, it can cause lesser awareness of the company within this market thus new customers may not find easier access to respective services.
Reduced Employee Morale
When businesses experience less demand for their products or services, they may have to reduce staffing levels. This leads to fewer job openings and increased uncertainty in employment. This would negatively affect how workers perceive their jobs and keep them motivated.
Increased Financial Risk
If a company is not profitable enough, it might face difficulties in meeting its expenses which may lead to a risk of financial troubles or bankruptcy.
What Are The Causes Of An IPO Undersubscription?
Various reasons may lead to IPO under-subscription, thereby affecting investor interest and the overall success of that particular offer. Let’s discuss them in brief:
Lack of Track Record
New IPOs are riskier for most investors because they lack a track record. A lack of historical data discourages some people from investing in such companies.
High Issue Price
Some IPOs are sold at extremely high prices in comparison with already listed similar companies. Investors may postpone their investment to wait for a fall in share prices.
Lock-in Periods
The period during which some investors, cannot sell their shares is referred to as the lock-in period. This is an unwanted time for many investors who choose not to invest in IPO.
Poor Marketing
Effective marketing is crucial for IPOs because they do not have track records. If an IPO is poorly marketed, it might not attract sufficient funds from investors and thus remain under-subscribed.
Competition from other IPOs
If there are numerous public offerings open at once, people who put their money into shares can avoid any of them or buy others leading to inadequate subscriptions.
Market Sentiment
When the stock market is experiencing a downturn or a lack of trust among investors, an IPO may see limited response.
Conclusion
An IPO that isn’t fully subscribed reveals some crucial aspects of a company’s initial offering. It shows possible reasons such as lack of interest from investors, high price per share, or unfavourable market conditions. Moreover, undersubscribed IPO offers benefits like better control over share prices and meet an investor’s needs. However, there is a downside to it that includes decreased revenue, limited growth opportunities, and increased financial risks. To avoid complications in the market, companies and investors need to understand the causes and effects of undersubscribed IPOs to make informed decisions. Therefore, knowing these factors is essential in judging the feasibility or attractiveness of an IPO.
FAQs on Undersubscribed IPO
Underpricing in an IPO occurs when a company's shares are sold for less than their true value. This can be bad for the company because it loses potential earnings.
Businesses issuing shares may lose money due to underpricing in their IPOs. However, it is an advantage for the underwriters and investors. This results in high sales of shares and increased fee levels paid out as commissions by banks handling the transaction of underwriting.
Yes, an IPO can be listed for less than the issue price (also called an IPO listed at a discount). This price is usually influenced by the demand and supply of IPO shares in the secondary market.
Yes, a retail investor who has received an allocation in the IPO may sell his shares at any time on or after the listing date.