Introduction
Career Point Infosystems Limited almost doubles on listing!!! Coal India IPO to hit the markets with a plan to raise as much as $3 billion!!!! Is this the kind of news that makes you wonder what this is all about??? Then look no further. This article throws some light on the concept of Initial Public Offerings (IPO). Naresh is a MBA working in a MNC with little or no knowledge of stock markets but has surplus funds ready for investment. Like many other people he is fascinated by the spectacular gains offered by some of the new companies on the very first day of listing. He would like to invest in an IPO but he does not know how to go about it. So let's get started.
What is a Primary Market?
Whenever a Company wants to raise funds for expansion or other corporate purposes or when the promoters decide to offer shares of the company to the public they decide to list the company on the stock exchange. The company approaches the stock market regulator Securities Exchange Board India (SEBI) with its intent to list on the stock exchange. The company has to file all the financials and other details with SEBI in a specified format which is known as Draft Red Herring Prospectus (DRHP).
The Company may issue shares at Par Value or at a Discount or at a Premium.
At Par Value: For example if the Face Value of the shares is Rs 10 and the shares are issued to the public at Rs 10 then it is said that the company is issuing shares to the public at Par Value.
Premium: If the Face Value of the shares is Rs 10 and the shares are issued to the public at a price above Rs 10 say at Rs 70 then it is said that the company is issuing shares to the public at a Premium of Rs 60 over the Face Value of Rs 10.
Discount: If the Face Value of the shares is Rs 10 and the shares are issued to the public at a price below Rs 10 then it is said that the company is issuing shares to the public at a Discount to the Face Value. Most of the companies issue their shares to the public at a Premium to the Face Value.
The primary purpose behind issuing securities (shares) in this manner is to raise Capital for the Company for expansion, working capital, paying debt, acquisitions or for any other corporate purpose.
What are the different kinds of Public Issues?
- Initial Public Offering (IPO): When an unlisted Company offers its securities (shares) to the public for the first time it is termed as IPO.
- Follow On Public Offering (FPO): When a listed Company makes subsequent offer of securities (shares) after the 1st issue, to the public it is termed as FPO.
- Rights Issue: In a rights issue a listed company decides to issue shares only to existing shareholders (as on a record date). In a rights issue the shares are allotted in a ratio related to the existing number of shares already held by the existing shareholders.
- Preferential Issue: An issue of shares made to specific designated buyers is known as a Preferential Allotment. Preferential Allotment can be made to Promoters or other set of investors.
Merchant Bankers
The company coming out with an IPO generally seeks the advice of a Merchant Bank (Book Managers). The Merchant Bankers help in determining the type of security to issue, the price at which the securities will be offered, the best time to hit the market, marketing of the issue, collecting the money, the allotment of shares and the refund of excess money collected. In return for this service the Merchant Banker charges a fee. The price of the IPO may be determined by the Company Management in consultation with the Merchant Bankers or arrived at through the process of Book Building. In an IPO offering a certain percentage of shares are reserved for each category of investors like Qualified Institutional Bidders (QIBs), Foreign Institutional Investors (FIIs), High Networth Investors (HNIs), Mutual Funds, Retail Investors and Employees of the Company. People applying for an IPO could be divided into two categories:
Short Term Investors: These investors are the ones looking for Listing Gains and sell the shares of the company in the initial few days after listing.
Long Term Investors: These investors are the ones who invest for the long term keeping in mind the long term fundamentals and financials of the company for capital appreciation over the long term.
How to select an IPO?
The following points could serve as guidelines to pick up an IPO for investment:
- Start with analyzing the background of the Company/Promoters, their past track records, core competencies and credibility.
- The Company financials also help you decide on various factors such as past sales growth, profit growth, profit margins, Order Book status and comparison with similar companies in the same business.
- Also read the prospectus (DRHP) for any risks that might be involved.
- Make sure the Issue Price is good enough (reasonable) for investing. This can be determined by studying the Price Earning (P/E) multiples and future growth prospects of the company.
How to Apply for an IPO?
- To apply for an IPO one needs to fill out an Application Form readily available outside Stock Exchanges, Stock Brokers, Banks etc.
- You need to fill the form specifying the no of shares applied for, the price to be paid, the demat account number and other details. The applicant needs to make the necessary funds available to the Bank designated as IPO's collection center. Alternatively you can also apply online through the broker's website.
- ASBA (Application Supported by Blocked Amounts) is the new investor friendly way of applying for IPO's which ensures that investor's funds leave his bank account only upon allocation of shares in the IPO. The ASBA process also ensures that only the requisite amounts of funds are debited to the investor's bank account on allotment of shares. In this mechanism, the need for refunds is completely obviated.
What after you apply for an IPO?
- After you closure of the book building process the company, merchant bankers and the registrars decide the allotment of shares.
- Depending upon how many times the IPO is oversubscribed you get a proportional allotment of shares in your Demat Account on a prorate basis. The higher the oversubscription the lesser the allotment.
- In case you get less allotment than applied for you get a refund of the remaining money in round about a week's time from the allotment process of the Issue.
Conclusion
So through this article we have learnt about the Primary Markets and IPO's and ways of investing in them. Hopefully people like Naresh can now look at the Primary markets as a good investment option. Please do let us know your views and comments. In the next article we will be exploring the Secondary Markets where Majority of the Action takes place. Till then Happy Investing!!!
