Guidelines for Investing in IPOs

18 November, 2024


An IPO is a major achievement for companies as it signals their shift from being privately held to publicly traded. Typically, an IPO involves offering shares to the general public in exchange for funds. Companies may pursue an IPO for various purposes such as expanding their business, introducing new innovations, receiving capital injections, paying off debts, and enhancing their reputation and visibility.

Moreover, an IPO presents a promising opportunity for investors as well. To tap into the growth trajectory of a company, start your IPO investment by opening a Demat account in HDFC Sky.

Why Companies Go for an IPO?

When a private company decides to become publicly traded, it must comply with the IPO process outlined by the Securities and Exchange Board of India (SEBI) and this procedure is intricate and thorough. Prior to investing in an IPO, it is crucial for investors to comprehend the purpose of the IPO process and its advantages for both companies and investors.

Below are several key advantages that an IPO can provide for a company –

• One of the key reasons for a company to pursue an IPO is to secure funds. It allows a company to boost its growth, broaden its reach, foster innovation, and address any outstanding debts, as we have previously discussed. The advantage of this approach it provides the company with necessary funding without increasing its debt.
  
  

• Through an IPO, businesses can tap into the vast array of financial options available on the capital market to facilitate future growth. These may include the issuing of bonds, shares, debt instruments, or seeking funding from alternative sources.
  
  

• Going public through an IPO lends credibility to the company's name. This will not only attract new investments, but also increases brand visibility, making it more alluring for top talent and potential partnerships.
  
  

• Going public through an IPO entails obtaining funds from the market. As a result, the company must establish its market value by considering both market demand and investor interest. This process allows the company to determine the size and price of the IPO.
  
  

• Increased liquidity is a major advantage of companies offering IPOs. This not only allows to raise funds from the public, but also provide existing shareholders with the option to sell their holdings. In contrast, private companies have limited liquidity as their shares are not easily transferrable. However, once a company's shares are listed on a stock exchange, existing shareholders can trade them and reduce their investment exposure.
  
  

Step-by-Step Guide to the IPO Process

As a potential investor, it is vital that you have a thorough understanding of the ins and outs of the IPO process. For your convenience, we have provided a step-by-step guide to help you gain a detailed understanding of how the IPO process works.

• Step 1 – Hiring an Underwriter
  
  Once a company has made the decision to go public, the initial step towards an IPO is enlisting the assistance of financial experts known as underwriters. Typically, an investment bank, these underwriters handle every aspect of the IPO process on behalf of the issuing company, from performing due diligence to providing post-listing support. They also oversee coordination between all parties involved throughout the entire process. Ultimately, these underwriters oversee and sign the underwriting agreement which outlines crucial information such as the deal specifics, IPO fundraising amount, and details of the securities being offered.
  
  

• Step 2 – Registration
  
  In the subsequent stage, the underwriting investment and issuing company collaborate to create both the registration statement and draft prospectus, also known as the Red Herring Prospectus (RHP). The RHP must be submitted as required by SEBI and Companies Act regulations, encompassing all essential information that must be revealed.
  
  Also, one should be aware that the RHP includes all pertinent information about the company, except for the price and number of shares being offered in the IPO. The following is a brief overview of what the Draft Red Herring Prospectus contains –
  
  

  • Definition - In this section, all the crucial terms and specialized keywords will be clearly defined.
    
    

  • Risk Factors - Every business faces various dangers and uncertainties. This section addresses all potential risks that may impact the share price and overall performance of the company post-listing
    
    

  • Use of Proceeds - The "Use of Proceeds" section outlines the company's plans for the funds raised from the public. It is a crucial section for potential investors to understand the allocation of their investment.
    
    

  • Industry Description - The industry section provides information on the company's specific industry.
    
    

  • Business Description - This section provides an overview of the company's primary business operations.
    
    

  • Financial Description - In this section, the current financial condition, including important financial statements and the auditor's report are discussed.
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  • Legal & Other Information - In this section, you will find information on the legal matters faced by the company, as well as other essential details that may not fall under a specific category.
    
    

• Step 3 – SEBI Verification
  
  Following the submission of the Red Herring Prospectus, there is a cooling period lasting between 2 to 4 months during which SEBI thoroughly examines all disclosed information. Upon receiving SEBI's approval, the company can proceed with determining a date for its IPO. It should be noted that SME IPOs do not undergo this same approval process and instead receive direct approval from the stock exchange.
  
  

• Step 4 – IPO Application to the Exchanges
  
  Once the underwriters have prepared and submitted the DRHP document and IPO application, they send it to the desired stock exchange. After verifying the documents, the stock exchange grants approval for the IPO.
  
  

• Step 5 – IPO Roadshows
  
  Making debut on the stock market the primary objective here is to provide potential investors with insights into the company's potential for future growth.
  
  

• Step 6 – IPO Pricing
  
  The cost or range of costs is determined based on the company's choice between a Fixed Price IPO or Book Building Issue.
  
  

• Step 7 – Open IPO for Anchor Investor
  
  Anchor investors, if present, receive top priority in the IPO process. A QIB who chooses to participate as an anchor investor by placing a minimum bid of Rs 10 crore will be categorized as such. The company then allots shares to these investors one day before the IPO is available to the general public.
  
  

• Step 8 - Launching IPO to the Public
  
  The general public is now able to participate in the IPO, by submitting bids for the shares being offered. The IPO typically remains open for 3 to 10 days, during which investors can place their bids. However, receiving shares is not guaranteed, as they are often distributed through a lottery system. To submit their IPO applications to the stock exchange's platform, investors usually use a broker or bank. Upon submission, they are given a unique IPO application number.
  
  

• Step 9 – Allotment of Shares
  
  The allotment of shares to investors is determined by the company and underwriters once the IPO price is established. In the event of an excess of applications, only a portion will be allocated. Following the final bidding date, the IPO stocks are usually distributed to successful bidders within ten business days.
  
  

• Step 10 – Listing Date
  
  The company then proceeds to submit the listing documents to the stock market. Once the allotted shares are credited to the account and a confirmation is received from the depository, the stock exchange will issue a listing circular on the following day. This circular will contain important details such as the final price, ISIN, code, and symbol.
  
  

As an investor, it is highly recommended to dedicate time and effort to comprehending the often complex IPO process. This comprehensive guide has provided a detailed breakdown of each stage involved. With a solid grasp on the IPO process, including its timelines and allocation, you are now equipped to make informed decisions regarding investing in an IPO. To kick start your IPO investment journey, open a HDFC Sky account at the earliest.

*Disclaimer: Terms and conditions apply. The information provided in this article is generic in nature and for informational purposes only. It is not an investment recommendation. Investments are subject to market risks and other risks.