Comprehensive Guide to Different Types of IPO

Welcome to our comprehensive guide on various types of Initial Public Offerings (IPOs). At Cryptoetf.in, we understand the significance of providing you with accurate and detailed information about IPOs. In this article, we will delve into the different types of IPOs, shedding light on their nuances, advantages, and how they impact the financial landscape. Our aim is to equip you with valuable insights that will not only enrich your knowledge but also assist you in making informed investment decisions.

IPOs can be categorized into two main types: fixed price issues and book building issues. Understanding these types can be valuable for investors. However, it’s important to note that before venturing into IPO investments, you should have a solid grasp of these IPO types, as well as knowledge of IPO strategies and tips to ensure a successful investment experience.

Fixed Price Issue:

As the name implies, a fixed price offering refers to the practice of selling shares in an IPO at a predetermined and fixed price. This price is determined through a collaborative effort between the merchant banker, responsible for managing the IPO, and the company going public. The merchant banker assesses various factors, such as the company’s risk profile, assets, liabilities, current valuation, and future growth prospects, to arrive at the share price.

In a fixed price offering:

1. Price Disclosure: The price per share is disclosed upfront at the beginning of the IPO. Investors are aware of the exact price they will pay for each share from the outset.
2. Full Payment: Investors are required to pay the entire subscription amount at the time of subscribing to the IPO shares. There is no partial payment during the application process.
3. Subscription Status: Unlike a book building offering, where investors receive daily updates on the subscription status, in a fixed price offering, investors only become aware of the subscription status after the IPO subscription period concludes.

Here’s an example to illustrate the concept of a fixed price offering:

Suppose a well-known private hospital urgently needs funding to acquire advanced diagnostic equipment. To raise capital, the hospital has two options: borrowing money through debt financing or raising funds by selling shares through an IPO. The hospital chooses the latter option to avoid paying high-interest rates on loans.

The hospital engages a merchant banker to assess its assets, liabilities, and growth potential to determine the share price. After evaluation, the merchant banker sets the face value of each share at INR 10 and offers them to the public at a fixed price of INR 100 per share.

To list the company on the stock exchanges, the hospital submits an application to the Securities and Exchange Board of India (SEBI) and provides a Draft Red Herring Prospectus (DRHP). The DRHP contains crucial information about the company, including its management, business operations, financials, reasons for going public, and potential business risks. If SEBI approves the DRHP in accordance with its guidelines, the hospital receives the green light to list on the stock exchanges. The hospital then advertises its IPO in prominent media channels to attract subscription amounts from investors.

Book Building Issue:

In a book building offering, the IPO price is not fixed from the outset. Instead, it is determined through a process involving discussions between the company planning to go public and the investment banker responsible for managing the IPO. Here’s how this process typically works:

1. Price Band: The investment banker establishes a price band, which is usually within a range of 20%. This price band defines the minimum (Floor Price) and maximum (Cut-Off Price) prices at which investors can bid for the IPO shares. Investors have the freedom to place their bids at any price within this range.
2. Total Number of Shares: The company specifies the total number of shares it intends to sell to the public through the IPO. Additionally, it discloses information about the existing shareholder(s) who plan to sell their stake in the company as part of the IPO.
3. Final Price Determination: The ultimate price of the IPO depends on the number and value of bids received from investors during the IPO subscription period. If the demand for the shares exceeds the supply (oversubscription), the IPO price is fixed at the Cut-Off Price, which is the highest price within the price band.
4. Funds Deduction: In a book building offering, the funds are deducted from the investor’s account only after the shares are allotted to them. This means that investors’ accounts are not debited during the bidding process but only after the allocation is finalized.

Here’s an example to illustrate the process:

Suppose a reputable brokerage house plans to raise capital for business expansion through an IPO. They appoint a merchant banker to manage the IPO, who carefully analyzes the company’s growth potential and financial status to determine the likely share price.

After thorough evaluation, the company decides to release 100,000 shares to the public. The merchant banker establishes a price band of INR 500 to INR 520, implying that investors must bid at a minimum of INR 500 per share.

During the bidding period (typically three to five days), the company receives bids from investors. They receive 30,000 bids at INR 500, 60,000 bids at INR 510, and 40,000 bids at INR 520. Since bids for 100,000 shares have been placed at INR 510 and above, the company does not allocate shares to investors who bid at INR 500.

Throughout the IPO offer period, the company publishes the IPO subscription status daily. This helps investors stay informed about the level of public demand for the IPO shares.

Sometimes, companies may choose to use a combination of both Fixed Price Issues and Book Building Issues when launching an IPO.

Differences Between the Two Types of IPO:

• Updates on Demand for Shares:
  • In a Book Building Issue, investors receive daily updates on the demand for shares during the IPO period.
  • In contrast, with Fixed Price Issues, information about the demand for shares becomes available only after the IPO’s subscription period concludes.
• Share Prices:
  • Fixed Price Issues determine the share price before the IPO begins. This price remains unchanged throughout the offering.
  • In a Book Building Issue, the company and underwriters specify a price range, allowing investors to bid for shares within that range. The final share price is determined based on the evaluation of these bids.
• Payment for Shares:
  • In a Book Building Issue, investors may make partial payments. They initially pay a portion of the total amount during the bidding process and settle the remainder after the allocation is finalized.
  • For Fixed Price Issues, investors are required to pay the full share amount upfront during the bidding process.

Understanding these differences can help you make informed investment decisions when considering participation in an IPO.