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What is an IPO?

An Initial Public Offer (IPO) is when an unlisted company issues shares either by way of fresh issue of securities or by way of sale of existing securities to the public. For unlisted shares, the IPO paves the way for listing and secondary market trading of the shares of a company.

Two Types of IPOs in the Stock Market

Broadly, there are two types of IPOs that come into the market. The first is a new offer where the companies raise fresh equity from investors for the first time. The new offer leads to an increase in the issued capital of the company and in the number of shares outstanding. The second type is an offer-for-sale (OFS) where existing shareholders of the company like promoters, anchor investors or other institutions use the IPO to exit their holdings, either partially or fully. An OFS does not lead to increase in the share capital but only leads to shift in ownership.

Why Do Companies Come Out with an IPO?

Raising fresh capital
One of the primary reasons for a company to come out with an IPO is to raise fresh capital. When companies need fresh capital they can either approach the banks for loans or borrow in the bond market. But this involves payment of regular interest and also repayment of principal. Through an IPO, the company can raise money by sharing the ownership of the company.

Exit option to anchor investors
IPO are also used to give an exit to early investors. Normally, when large institutions and venture funds invest in a company at an early stage, the agreement is to give them an exit in a time bound manner of 5-7 years. In such cases, the company may plan an Offer-for-sale where the particular PE fund or Venture Fund is given an exit from the company through any OFS. This exit can either be partial or total.

Facilitates listing
An IPO paves the way for listing of the shares on the stock exchanges and subsequent trading in the secondary markets. This gives greater visibility to the company and to the stock. This becomes a benchmark to value the stock and also the company. Not only does the shareholding of promoters become valuable but the stock and the company get much wider publicity and visibility too.

Basis for stock valuation
Listing the company through an IPO is a very important currency for companies when they want to acquire other companies. Take the case of Avenue Supermart. The market cap of the company has gone up substantially after its listing. That gives the company huge currency when it plans for acquisition of other companies through the share swap method.

Flexibility
IPOs can also be structured as a new offer cum OFS. In such cases, the company raises funds through a mix of fresh offering and sale of stock. This helps the company to raise fresh money and also to provide an exit route for existing key investors.

Three Things to Know About IPOs in India

While the IPO is a wide subject, the following 3 points cover critical aspects of any typical IPO issue that comes out in India.

Fixed price versus book building
IPOs can happen through a fixed price or book building. The book building method is based on the idea of price discovery where the company starts off with an indicative price and then the price is discovered through the forces of demand and supply. Book building is a lot more popular and there are hardly any fixed price issues these days.

Offline versus online bidding in IPOs
Investors who are looking to invest in IPOs can either invest through the offline bidding process or the online bidding process. The online bidding process is a lot simpler and it can be done through your existing trading account with your broker. The trading account needs to be mapped to an online DP account and an online bank account.

Benefits of ASBA
Nowadays, IPOs come with the in-built benefit of an ASBA facility. The Application Supported by Blocked Amounts (ASBA) is a better method for investors of just blocking the funds and only the allotment money getting actually debited to your bank account. ASBA is simpler and more efficient.

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