What is IPO & how to Invest in IPO in India?

IPO: Learn how companies go public, offering shares to investors in this essential financial process.
What is IPO & how to Invest in IPO in India?
3 mins
02 September 2023

An Initial Public Offering (IPO) is a significant milestone in a company's journey from being privately owned to becoming a publicly traded entity. It is an exciting opportunity for investors to participate in a company's growth story from its early stages. In this comprehensive guide, we will explore what an IPO is, how it works, the step-by-step IPO process, and everything you need to know about investing in IPOs in India.

IPO definition

An IPO, or Initial Public Offering, is the process by which a privately held company makes its shares available to the general public for the first time. It transitions from a privately-owned entity to a publicly traded company, allowing individuals and institutional investors to purchase its shares.

How an initial public offering (IPO) works

In an IPO, a company decides to raise capital by issuing shares of its stock to the public. Here's how the process typically works:

  1. Preparation phase
    • A company decides to go public and appoints investment banks as underwriters.
    • Extensive due diligence, including financial audits and legal compliance checks, is conducted.

  2. DRHP filing
    • The company files a Draft Red Herring Prospectus (DRHP) with the Securities and Exchange Board of India.

  3. Select the stock exchange
    • The next step would be to decide the exchange where the company would list its shares should be made, followed by an application to the selected exchange.

  4. Roadshow
    • The company, along with underwriters, conducts a roadshow to promote the IPO to potential investors.

  5. Pricing
    • Based on investor demand and market conditions, the offering price is determined.
    • The final prospectus, known as the Red Herring Prospectus (RHP), is issued with the offer price range.

  6. Allocation
    • Shares are allocated to various investor categories, including Qualified Institutional Buyers (QIBs), Non-Institutional Investors, and Retail Individual Investors.
    • Bidders can apply for shares within the specified price range.

  7. Listing
    • The company's shares are listed on stock exchanges like NSE and BSE.

  8. Trading commences
    • On the IPO day, the shares become available for trading in the secondary market.
    • Investors can buy and sell shares at market prices.

  9. Lock-up period
    • Promoters and certain shareholders are often subject to lock-up periods during which they cannot sell their shares.

  10. Post-IPO reporting
    • The company is required to provide regular financial and operational updates to the stock exchanges and investors.

  11. Stabilisation period
    • In some cases, underwriters may engage in stabilization activities to support the stock's price during the early trading period.

The IPO process in India involves rigorous regulatory compliance and thorough investor scrutiny to ensure transparency and fairness in the capital markets.

Pros and cons of investing in IPO

Pros of investing in an IPO:

Before investing in an IPO, it is important to understand the potential advantages and disadvantages that come with it.

  1. Early investment opportunity: IPOs provide an opportunity to invest in a company during its early stages of going public, potentially benefiting from long-term growth.
  2. Potential for high returns: Successful IPOs can offer significant capital appreciation as the company's value may increase after listing.
  3. Access to promising companies: IPOs often involve innovative or promising companies that were previously private, allowing investors to be part of their growth story.
  4. Liquidity for founders and early investors: Existing shareholders, including founders and early investors, can monetize their investments by selling shares in the IPO.
  5. Market visibility: Going public can increase a company's visibility and credibility, which can positively impact its business relationships and growth prospects.

Cons of investing in an IPO:

  1. High risk: IPOs are inherently risky, as newly public companies may lack a track record of profitability and face uncertainties in the market.
  2. Volatility: Share prices of IPOs can be highly volatile during the initial trading period, making it challenging to predict short-term price movements.
  3. Limited historical information: Investors have limited access to historical financial data and performance metrics, making it challenging to conduct comprehensive due diligence.
  4. Potential for overvaluation: Some IPOs may be overvalued, leading to price corrections after the initial hype subsides.
  5. Lock-up periods: Promoters and early investors are often subject to lock-up periods, during which they cannot sell their shares, potentially affecting the stock's supply and demand dynamics.
  6. Market conditions: IPO success can be influenced by broader market conditions, and adverse market conditions may lead to postponed or cancelled IPOs.

Investing in an IPO requires careful consideration of these factors, as well as thorough research and risk assessment. While the potential for high returns can be enticing, it's important to balance the rewards with the associated risks.

Why does a company offer an IPO?

Companies offer IPOs for several reasons:

  1. Capital infusion: IPOs raise capital, which can be used for business expansion, debt reduction, or other corporate purposes.
  2. Liquidity for investors: Existing shareholders, including founders and early investors, can monetize their investments by selling shares in the IPO.
  3. Enhanced visibility: Going public can increase a company's visibility and credibility in the market.

How to invest in an IPO?

Investing in an IPO typically involves the following steps:

  • Evaluate the IPO prospectus
    Study the prospectus, which contains essential information about the company's operations, risks, and financials. It provides insights into the company's potential and helps you make an informed investment decision.
  • Open a Demat account
    To participate in the Tata Technologies IPO, investors should have a Demat account. Bajaj Financial Securities Limited stands as a reliable choice for investors seeking to open a Demat account with abundant features and complete safety.
  • Apply for the IPO
    Once you have a Demat account and trading account, you can apply for the IPO through the broker's platform. You will need to provide the necessary details and specify the number of shares you want to subscribe to.

Notable terms associated with IPO

1. Underwriter

Third parties such as a banker, financial institution, or a broker hired by the company to assist with underwriting the stocks.

2. Fixed price IPO

Fixed Price IPO refers to a predetermined issue price set by companies for the initial sale of their shares.

3. DRHP

DRHP stands for Draft Red Herring Prospectus. It is a preliminary document filed by a company to the SEBI when it is planning to issue an IPO.

4. Book building

Book building refers to the process where underwriters or merchant bankers determine the price at which IPOs will be offered.

Conclusion

Investing in an IPO can be an exciting opportunity to participate in the growth of a company from its early stages. However, it comes with risks, and thorough research and consideration of various factors are essential. By understanding the IPO process, evaluating companies, and using reliable platforms like Bajaj Financial Securities Limited, you can make informed investment decisions in the dynamic world of IPOs.

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