All about Initial Public Offerings (IPOs)

Ashish M. Shaji

09 Jun, 2022

You would have come across this news lately that an Indian start-up turned unicorn and went ahead with the step to go public through their Initial Public Offerings. You would have heard about Zomato (online food delivery and restaurant discovery) IPO opening up for the subscription. So, the question is what is an IPO, and how does it work. We will find out the answer to this question through this article. In this article, we are also discussing on the eligibility to invest in an IPO.

Meaning of Initial Public Offerings (IPOs)

IPOs refer to a process where a private company goes public by offering its shares to the commoners for the first time. Through this process, an investor can get the shares of the company in exchange for an amount. The companies may go public in this manner in order to raise capital for their growth and expansion. Therefore IPOs are regarded as a valuable mechanism for companies to broaden their business. It also provides an opportunity to retail investors to grow their money over time.

However, one should not have a false impression that all of them could be a great opportunity. One must assess the fundamentals of the company and its growth potential before subscribing to a company’s IPO.

Conditions to fulfil before launching Initial Public Offerings

The following conditions should be fulfilled by a company before going public through an IPO:

• It should have net tangible assets of minimum 3 crore rupees in each of the previous 3 years, of which up to 50% can be held in monetary assets;
• It should have recorded average pre-tax operating profit of minimum 15 crore rupees in 3 of the immediate 5 preceding years;
• It must be having a net worth of an amount exceeding 1 crore rupees in each of the previous 3 years;
• In case the name of the company was changed, then minimum 50% revenues generated in the previous year should be attributable to the name change;
• The issue should not be more than 5 times of the pre-issue net worth.

Types of IPO

• Fixed Price Offering: This is a type of IPO when it is the responsibility of the issuing company to set its issue price for the initial sale of its shares. The issuing price shall be available to the public when the issuing company determines it. One can easily know the demand for the stock after the initial subscription is completed. One should ensure that they make full payment for the shares when applying.
• Book Building: In this type of IPO, the issuing company provides a 20% price band on the stocks for investors. All those interested place bids on shares before fixing of the final price. Here the investors are required to mention the number of shares they seek to purchase. They must also input the amount that they are ready to pay for a share. The lowest share price is termed as floor price, whereas the highest is the cap price.

Process of filing for an IPO

The companies that seek to go public through this process are required to follow the guidelines and regulations laid down by the capital markets regulator, SEBI.

SEBI scrutinizes such company to determine if it is eligible to file for an IPO. The procedure is as follows:

• The company must submit all relevant documents and information to SEBI, specifying the number of shares being issued, the set price, company’s track record and its plan to use the capital that is being raised through the IPO;
• When the company gets the regulatory approval, it issues a red herring prospectus which comprises of information regarding the IPO;
• Then the company seeks the assistance of a broking firm or investment banker to manage its IPO;
• The lead manager shall then invite bids for the IPO from all the investors,
• When the IPO comes live, the general public subscribes to it and gets its shares corresponding to their investment.

Eligibility to invest in an Initial Public Offerings

The eligibility criteria to invest in an IPO are:

• You should have a PAN card issued by the Income Tax Department^[1];
• You should hold a valid Demat account;
• It is not compulsory to have a trading account, but you may require the same to sell the shares you bought through IPO.

Conclusion

Usually, Initial Public Offerings are regarded as beneficial as it allows the issuer company to enlarge the equity base and increase the exposure as well. It also benefits investors as they get an opportunity to get great returns. However, as stated above, all of them may not be a great opportunity therefore, one should be careful and aware about the financial metrics to know which opportunity to cling to. So do your research well and be watchful about the latest IPOs.

Read our article:Things to Know Before Subscribing to IRFC IPO