The Leaders Column

If you’ve recently started following the stock market, you’ve probably heard about companies launching an IPO. Whether it’s a technology startup, a manufacturing giant, or a financial services company, IPOs often attract significant attention from investors because they offer the public the opportunity to invest in a company for the first time.

But what is IPO, how does it work, and should you invest in one?

This comprehensive guide explains everything you need to know about Initial Public Offerings (IPOs), including how they work, why companies launch them, their benefits and risks, and the IPO process.

What Is IPO?

An IPO (Initial Public Offering) is the process through which a privately owned company offers its shares to the public for the first time and becomes listed on a stock exchange.

Before an IPO, a company is typically owned by its founders, employees, venture capital firms, private equity investors, and other early stakeholders. Once the IPO is completed, anyone can buy or sell the company’s shares through the stock market.

Going public allows businesses to raise capital from public investors while becoming subject to stricter financial reporting and regulatory requirements.

Why Do Companies Launch an IPO?

Companies choose to launch an IPO for several important reasons.

Raise Capital

The biggest reason is to raise money for expanding operations, launching new products, funding research, acquiring other businesses, or reducing debt.

Improve Brand Recognition

A publicly listed company often enjoys greater credibility among customers, investors, suppliers, and business partners.

Provide Liquidity

An IPO allows founders, venture capital firms, and early investors to sell part of their ownership and realize returns on their investments.

Support Future Growth

Public companies can raise additional funds more easily through follow-on public offerings, bonds, or other financial instruments.

How Does an IPO Work?

The IPO process involves several carefully regulated steps.

1. Appointment of Merchant Bankers

The company hires investment bankers or merchant bankers to manage the IPO process and advise on pricing, regulations, and marketing.

2. Filing the Draft Prospectus

The company prepares a Draft Red Herring Prospectus (DRHP), which contains financial information, business details, objectives of the issue, and potential risks.

3. Regulatory Approval

The securities regulator reviews the prospectus to ensure all necessary disclosures are made before approving the IPO.

4. Price Band Announcement

Most IPOs follow the book-building process, where investors place bids within a specified price range.

5. Subscription Period

Retail investors, institutional investors, and high-net-worth individuals apply for shares during the subscription window.

6. Share Allotment

After the subscription closes, shares are allotted based on investor demand and applicable allocation rules.

7. Stock Exchange Listing

The company’s shares begin trading on the stock exchange, allowing investors to buy and sell them freely.

Types of IPO

There are two primary types of IPOs.

Fresh Issue

The company issues new shares and receives the proceeds, which are used for expansion, debt repayment, or business development.

Offer for Sale (OFS)

Existing shareholders sell a portion of their shares to the public. In this case, the money goes to the selling shareholders instead of the company.

Many IPOs include a combination of both Fresh Issue and Offer for Sale.

Advantages of Investing in an IPO

Investing in an IPO offers several potential benefits.

• Opportunity to invest in a company at the beginning of its public journey
• Potential listing gains if market demand is strong
• Long-term wealth creation through company growth
• Portfolio diversification
• Access to businesses that were previously privately owned

Risks of IPO Investing

Like any investment, IPOs also involve risks.

• Share prices may decline after listing.
• Newly listed companies can experience high price volatility.
• Valuation may be difficult to assess due to limited public market history.
• Oversubscribed IPOs may result in partial or no allotment.
• Strong subscription numbers do not guarantee future returns.

Investors should evaluate each IPO carefully before applying.

What Should Investors Check Before Applying?

Before investing in an IPO, consider the following factors.

• Revenue growth
• Profitability
• Business model
• Competitive advantage
• Industry outlook
• Promoter experience
• Debt levels
• Valuation
• Purpose of raising funds
• Risk factors mentioned in the prospectus

A detailed review of these aspects helps investors make informed decisions.

Who Can Invest in an IPO?

Most IPOs are open to different categories of investors.

• Retail Individual Investors (RIIs)
• Qualified Institutional Buyers (QIBs)
• Non-Institutional Investors (NIIs)
• High Net Worth Individuals (HNIs)
• Employees (where applicable)
• Existing shareholders (in selected IPOs)

Each category has its own allocation limits and eligibility requirements.

IPO vs Listed Shares

IPO	Listed Shares
Purchased before stock exchange listing	Already trading on the stock exchange
Limited subscription period	Can be bought anytime during market hours
Price determined during the IPO	Price changes continuously based on market demand
Possibility of listing gains	Prices fluctuate according to market conditions

Common IPO Terms Every Investor Should Know

Understanding IPO terminology can make investing much easier.

• DRHP – Draft Red Herring Prospectus
• RHP – Red Herring Prospectus
• Price Band – Range within which investors bid
• Lot Size – Minimum number of shares that can be applied for
• Cut-off Price – Final issue price
• Listing Day – First day of trading
• Oversubscription – Demand exceeds available shares
• Underwriters – Financial institutions managing the IPO

Is Investing in IPOs Worth It?

IPOs can offer exciting opportunities for investors seeking long-term growth, but they are not guaranteed to generate profits. Some newly listed companies perform exceptionally well, while others may decline after listing.

Instead of applying for every IPO, investors should analyze company fundamentals, financial performance, industry prospects, and valuation before making investment decisions.