IPO : Initial Public Offer

What's a public issue?

Most companies are usually started privately by their promoter(s). However, the promoters’ capital may not be sufficient for setting up or running the business over a long term. So companies invite the public to contribute towards the equity and issue shares to individual investors. The way to invite share capital from the public is through a ‘Public Issue’. Simply stated, a public issue is an offer to the public to subscribe to the share capital of a company. Once this is done, the company allots shares to the applicants as per the prescribed rules and regulations laid down by SEBI.

One of the forms of public issue is IPO i.e., Initial Public Offer.
An Initial Public Offer (IPO) is the selling of securities to the public in the primary market. It is when an unlisted company makes either a fresh issue of securities or an offer for sale of its existing securities or both for the first time to the public. This paves way for listing and trading of the issuer’s securities. The sale of securities can be either through book building or through normal public issue.

Diff b/w book building and normal public issue :

• In normal public issue, the company and Lead Merchant Banker fix a price (called fixed price).All investors should buy the shares at this price only.
• In book building issue the company and the Lead Manager (LM) stipulate a floor price or a price band and leave it to market forces to determine the final price.
• How book building issue works : It is a mechanism where, during the period for which the IPO is open, bids are collected from investors at various prices, which are above or equal to the floor price. The offer price is determined after the bid closing date. Thus this method is an efficient way of price discovery of an IPO.

Few terminologies involved :

1. Face value : it is the original cost of the stock shown on the certificate issued by the company. Its usually 2, 5 or 10.Rs.

2. Floor price : Floor price is the minimum price at which bids can be made.

3. Price band : In book building issue, the issuer fixes a price band b/w which investors can bid.

4. Cut-off price : This is the effective price at which stocks are finally issued after effectively finding the price by book building method of issue. Its also called Issue price.

5. Lock in : Indicates a freeze on the sale of shares for a certain period of time.Done to ensure that promoters continue to hold some percentage share of the company even after the public issue.

Other features of an IPO :

• The Book in a book building process should remain open for a minimum of 3 days.
• An investor should know in about 15 days time from the closure of issue, whether shares are allotted to him or not.
• If not allotted, he should recieve the refund in the same duration of time.
• It would take around 3 weeks after the closure of the book built issue for the stock to be listed in the exchange.

Lets take an example of an IPO and see how it works : RELIANCE POWER

• Largest IPO in India.
• Market capitalisation of over Rs.94000 crores ( current price * no. of shares)
• Issue price of Rs.450 for retail investors.
• Unfortunately listed at a discount of Rs.20 i.e., Rs.430. (happened coz investors' sentiments changed that the IPO was over valued)
• To compensate for losses, board has agreed upon bonus issue of 3:5 (for every 5 shares held, 3 bonus shares recieved).
• Therefore bringing down the value per share to Rs.269.

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