Investment in an initial public offering, or IPO, can be highly risky, but also has the potential for great returns. Investing in upcoming IPO, hence, can seem very attractive, but it can also be very damaging if you’re going in blind.
While investment in the latest IPO in India might seem similar to investing in regular stocks, there are some differences to consider. In this post, we will try to explain everything you need to know about the current IPO. The simplified version is this – an IPO is the process in which a privately held company offers shares to the public to raise funds.
Public vs Private Corporation
IPO or IPO application is the process that a private company uses when it goes public. What does private and public company mean though? The main difference between the two is that shares of a public company can be publicly traded on a stock exchange. Shares are units of equity ownership in a corporation and allow for equal distribution of residual profits.
For a private company, the shares of the company are owned typically by the founders of the company, but can also be a group of investors. A public company allows for the general public to buy the company’s shares on the open market, spreading the ownership.
What is an Initial Public Offering (IPO)?
When a company decides to transition from a private to a public company, it uses a process called an initial public offering, or an IPO. This transition can be crucial for private investors to fully realize the gains from their investments, while allowing public investors to participate.
An IPO is issued by a company to raise capital, which can be for a number of reasons – paying off debts, growing funds, raising their public value, and allowing private owners to diversify their holdings.
For most companies, an IPO can be a huge deal, allowing them to raise more capital than they could though private ownership or investors, giving them greater ability to grow and expand. This is most beneficial to startups. This also gives more transparency and credibility to the company, helping them out when they’re seeking borrowed funds.
Types of IPO
Fixed Price Offering
In this process, the companies set the issue price for the initial sale of the shares and make the price known to the public. Full price of the shares must be paid when applying for shares in this kind of IPO.
Book Building Offering
In this kind, the company that is initiating the IPO offers a 20% price band on the stocks and the interested investors can bid before the final price is decided. Investors can specify the number of shares and the amount they want to pay for those shares.
How does an IPO investment work? How to buy IPO?
While an IPO is technically a process of opening up the company’s shares to the public, participating in an IPO is not the same as buying already public shares.
Shares in an IPO are offered before trading begins, and you cannot buy them directly like with other public shares. Instead, you have to bid for the shares. The price of the shares can depend on the kind of IPO, and their number of shares biddable is often in fixed multiples.
Bidding is finalized once you’ve paid the required amount. If your bid is accepted, you are offered the number of shares that you bid for. If not, then you will get a full refund of your money. The IPO process is regulated entirely by the Securities and Exchange Board of India (SEBI). Even initializing the process requires fulfilling strict criteria by SEBI.
Should you invest in an IPO? What all should you consider?
The hot question now is if you should invest in an IPO. There are a lot of things to look out for when investing during an IPO.
- The credibility of the company is the biggest criterion to consider, but even that is often not enough. Oftentimes, a popular company might be overvalued, resulting in share prices to tank right after an IPO ends. Hence, a financial analysis of the company is also important.
- One of the ways to assess the risk is by reading the Draft Red Herring Prospectus (DRHP) which is filed by a company to SEBI before an IPO. This will give you an idea of how the company intends to use the money raised and the potential risks for investors.
- Studying the company’s peers will give you an idea if the company’s valuation is in line with its peers. This information is usually available in the DRHP.
- It is important to consider the financial performance of the company. Learning about the company’s profits and revenues over time can help you decide if the company is worth investing in. A good sign for investing is if the company’s profits and revenues are increasing over time.
- It is also important to consider the company’s potential in the market. Analyzing the potential of the business can give you an insight to the company’s future prospects.
These are just some of the things you must do before deciding on investing during an IPO. Like with any investment, doing your homework is a must.