What is the IPO cycle?
Every firm intending to change from a privately held to a publicly traded corporation needs to go through the very first step, an initial public offering (IPO). However, this is not a single event but rather a journey that is a continuous cycle with a far-reaching impact on the business, its stakeholders, and the market at large. This article will discuss the IPO cycle of a company, IPO cycle means and its process, its advantages, and its impact on various entities.
Key Highlights
- The IPO cycle transforms a private company into a public one, providing opportunities for capital raising and expansion.
- The process involves multiple stages, including underwriter engagement, SEBI approval, and stock exchange listing.
- Key factors influencing the IPO cycle include market conditions, industry trends, and company performance.
- While an IPO offers benefits like increased capital and credibility, it also presents challenges such as financial costs and time demands.
Table of Contents
Understanding IPO Cycle
The IPO cycle refers to the business procedure from the privately held to the public-traded company. It is viewed as one of the greatest successes for businesses eyeing to raise capital and expand.
It generally starts when a firm’s management decides to take the company public. The motive behind such a move is mostly the need for more capital to fund development plans or refinance debt and sometimes to provide liquidity to some existing shareholders. Thereafter, the company will undergo several processes: selection of underwriting investment banks, due diligence, and preparation of the required paperwork, which includes a prospectus containing some essential information about the company and its business operations.
Provided the minimum requirements set by various regulatory agencies are met, a business files for IPO to the relevant securities regulatory authority. The company issues the first shares of its stock to the public during an IPO and provides an opportunity for the positioning of an equity stake by both individual and institutional investors.
After this offering, there is normally a ‘lock-up’ period during which some shareholders, for example, corporate officers, are not allowed to sell their stock. The shares of the company get listed on one or another stock exchange, where different types of investors can sell them as freely as possible, thereby closing the cycle.
The IPO Cycle Process
Below is the IPO cycle process, outlining the key stages from initial planning to public listing:
Engagement of Underwriter
The process of an initial public offering starts with the appointment of an underwriter, usually an investment banker. An underwriter agreement follows after the underwriter evaluates the market, financials, and fundamentals of the company.
Drafting the DRHP
The Securities and Exchange Board of India (SEBI) must receive Draft Red Herring Prospectuses (DRHPs) from private companies preparing initial public offerings (IPOs). It contains details of all the relevant information relating to the IPO and the issuing company, such as financials, strengths, shortcomings, and size of the IPO. The underwriters assist in the preparation of the DRHP.
SEBI Approval
DRHP requires approval from SEBI. Market regulators will approve or reject the IPO application based on the information provided in the draft documents reviewed.
Marketing
After the approval from SEBI, the company starts marketing for the IPO. It would carry out media advertising, and visits to metropolitan commercial centres for meeting HNIs and communicating to them the potential for exponential growth of the company.
Price Band Determination
The next step is to set the IPO price range, within which interested investors can bid. The determination of the price band is a very important decision after examining the growth prospects and fundamentals of the company, in consultation with the underwriter.
Investor Bidding
The public bidding for the IPO begins when the price band is determined. Investors put bids for IPO shares during this time.
Share Allotment
Once the bidding process reaches its end, the company initiates the process of share allotment. All applicants get the shares in case the initial public offer is under-subscribed; and in case of oversubscription, it can be done by a lottery system.
Listing
Following the conclusion of the bidding procedure and share distribution, listing takes place. Shares can be freely traded on secondary markets after they are listed.
Factors Influencing the IPO Cycle
Understanding the factors that affect the IPO cycle is as important as knowing the cycle itself. An IPO process is not merely a one-time event but is highly affected by several internal and external factors. Most of the constituents mentioned herein are very critical, especially to the companies intending to access the public capital and the investors intending to involve themselves in initial public offerings.
Market conditions and investor sentiment
The overall condition of the financial markets largely determines the success an IPO cycle may get. Generally, bull markets provide an ideal operating environment, with optimism and increasing stock prices setting the stage for a company to go public.
In contrast, weak markets or economic uncertainty may be factors causing unimpressive or delayed IPOs. However, the valuation that the company receives and the demand for new offerings are determined exclusively by the mood of the investors and their perception of the current state of the IPO cycle and are, therefore, impacted by economic data, geopolitical events, and sector-specific trends.
Industry trends and competitive landscape
Industry plays a great role in determining whether a company is likely to go public. Rapidly growing economies, and more technologically advanced nations, are the centres of attraction for investments.
For instance, in the recent past, the number of IPOs of Indian software companies and renewable energy companies has risen, keeping in view market trends for these two sectors. The competitive environment has also a major impact on the status and performance of a company in the public markets.
Company performance and growth potential
An IPO is an important activity in a firm’s level of operating performance, its ability to financially last, and its potential to expand. In this way, a clear direction of future growth resulting in high revenue growth and profitability precedes everything for investors. Therefore, there needs to be a clear conception among companies on the IPO life cycle process to capture investors’ interest and achieve higher valuation numbers.
They also consider factors like market share, innovations, and business scalability to estimate the company’s growth potential, which directly impacts the success of the IPO. A potential investor will always take a closer look into the organisational financial statements, competitive advantage, and limited marketing positioning to have an understanding of the long-term viability of a company.
Advantages of an IPO for a Company
Below are the advantages of the IPO, highlighting the benefits companies gain from going public and the opportunities it offers for growth and visibility.
- Access to Capital: The major way a corporation can raise a huge amount of money through the IPO cycle is by selling shares to the public. The financial influx provided by the initial public offering may be used for several purposes: repayment of bank loans or other debt, expansion of the operation lines, more R&D investments, and acquisition of businesses.
- Increased Public Awareness: An IPO makes the company more publicised, which generates a great deal of media attention, thereby giving wide exposure to the brand. This visibility might attract new partners, investors, and even customers, increasing the chance of growth for the company.
- Liquidity for Early Investors: One of the advantages of this IPO cycle is the liquidity event that will allow early investors, including founders, staff, and venture capital firms, to sell their shares and reap profits. They will finally have access to the wealth they have put into the company and, in some cases, actually realise huge returns on their early investment.
- Enhanced Credibility and Trust: Going public enhances trust and confidence in the market. It proves that the business has followed through with strict legal requirements, thorough due diligence, and openness and reporting guidelines. This can help attract more institutional stakeholders and investors who respect accountability and stability.
- Currency for Acquisitions and Partnerships: Companies that are publicly traded have access to valuable capital in the form of shares. They can be used in strategic takeovers, in both collaborations and mergers, that may enable a company to grow its market shares, diversify its product, and take advantage of business-to-business synergies.
- Employee Incentives: Going public can also benefit from using stock-based compensation programs as a form of reward and retention. Companies, through restricted stock units or employee stock options, can align employee interests with long-term shareholder value and build employee loyalty and motivation.
- Exit Strategy for Founders and Investors: It provides an attractive exit plan to early investors and founders who would want to cash in their investments, liquidate their profits, and move on to other projects. A clear, controlled way of selling their respective shares into the open market is given, thereby being able to diversify their holdings and realise their profits.
- Continued Growth and Expansion Opportunities: Businesses accessing public capital markets can leverage funds for strategic acquisitions or growth projects through debt, convertible, or secondary offerings.
- Valuation and Benchmarking: Since the market establishes a company’s value based on investor demand and market conditions, the IPO process gives the business a benchmark for valuation.
Drawbacks of an IPO Cycle
As we saw the advantages, there are also drawbacks to accessing public capital markets, some drawbacks of an IPO cycle include:
Financial Implications:
The considerable costs involved in the IPO cycle are a major drawback for the companies. Companies may face severe financial hardships as a result of the costs associated with listing shares on a stock exchange and continuing financial obligations like compliance and audits.
Increased Operational Demands:
Companies that are publicly traded might need to bring on more staff to handle the increased level of public scrutiny, thus, their operational resources may be strained by this necessary expansion in staffing.
Time Commitment:
The IPO procedure requires a significant time investment, which is another possible disadvantage. The time-consuming nature of the numerous regulatory processes, paperwork, and compliance requirements takes away from regular corporate activities.
Conclusion
The IPO cycle is a change that will take your business from a privately held company to a public-traded one, including advantages such as access to capital, enhanced visibility, and growth opportunities. However, the cons include financial costs, increased operational demands, and time commitments on many levels. The intricacies of the IPO cycle, the process and factors that impact it, and its relation to various entities have to be known to maximise benefits for a business by countering all its associated challenges.
FAQs on the IPO Cycle
An IPO cycle can benefit a firm in many ways, including expanded expertise, liquidity, access to capital, more accurate financial reporting, a higher value, more credibility, and easier access to funding.
An investor should analyse the company and assess the market conditions before investing in an initial public offering (IPO). They should also assess the risks involved, weigh the valuation, make prudent financial decisions, and diversify their portfolio.
Raising capital while converting a company from private to public ownership is the primary objective of the IPO cycle.
Before initiating the initial public offering (IPO) cycle and employing underwriters and other consultants, a company must ensure that it conforms to regulatory criteria.