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Why Does a Company Offers IPO

Why Does a Company Offers IPO?

There are many reasons for offering shares through an IPO. Of course, raising funds for projects is the most obvious reason for the IPO. But companies also raise monies through an IPO to get listed in the stock market and give greater visibility to their shares.

How Do You Value a Company for Initial Public Offering (IPO)?

There are internal methods of valuing a company like future earnings, dividend discount model, cash flow discounting model etc. But the best affirmation of value is the market assigned value. That value can be found only when the stock is listed in the market and widely traded. Typically, stocks tend to reflect the worth of a company over time. Why do companies like Google and Amazon trade at such lofty valuations compared to oil and steel companies? That kind of value discovery is only possible when the company lists and trades on the exchange.

Five Reasons Why a Company Goes Public

Need to raise funds
The most obvious reason for a company issuing an IPO is the need to raise fresh funds. A company can raise fresh funds either by taking on debt or by issuing equity. By issuing equity, the promoters share the ownership of the company with many shareholders. The funds so raised do not carry a commitment and are better for long gestation projects.

Exit route for investors
Another reasons for an IPO is to give an exit route to anchor investors. Typically, when a company is at an early stage, they issue shares via private placement or through preference shares to large VCs and PE funds. These funds need to be given an exit at a point after 5-7 years and the IPO can be a route to help these investors exit the counter.

Enhancing the image of the company
An IPO followed by a listing gives a wide publicity and visibility to the company. Take a profitable company like D-Mart or Alkem Labs. Not much was known about the actual worth of these companies till the time of the IPO. After the IPO, these funds have got a wider ownership base and also seen good enhancement in value.

Sell the valuation story
An IPO becomes the platform for you to tell a story about your company and its growth to the institutional investors like mutual funds, pension funds, foreign portfolio investors, sovereign funds etc. This helps the company in getting much wider institutional acceptance and also a much better valuation in the market.

Leverage for mergers and acquisitions
Finally, IPO is currency in the hands of the company. Today a company like TCS is worth $110 billion which means it has enough currency in the form of stock to buy out most companies in the Indian market. That is where stock swaps fit in. They entail buying into another company using stock and such deals are based on valuations alone.

Three Specific Advantages of Becoming a Listed Company

The IPO issue becomes the gateway for a company to get listed on the bourses. This proffers three distinct benefits to the company in question.

Analyst popularity
Once a company is listed and quoted in the market, there are analysts tracking the stock and that gives greater visibility to the stock. Normally, prices of a stock are determined by the guidance given by the company and how the analysts interpret the same. The company can communicate to a wider audience through an IPO listing.

Monetizing holdings
There is a barometer of value and promoters are in a position to monetize the market value of their shares. Quite often, banks insist that promoters guarantee the loans or offer their promoter stake as pledge against the loan. Promoter stake can also be monetized via loans in case the company wants to meet short term funding gaps.

Benchmarking valuations
The stock price experience over a period of 1 year also helps the company to arrive at the indicative P/E for pricing placements and that can a good base for raising future resources.

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