IPO - Concept
An Initial Public Offer is the selling of securities to the public in the primary market. It is the first time a company offers shares of stock to the public. Smaller, younger companies seeking capital to expand their business often consider venturing in IPOs. It is also referred to as a "Public Offering."
What is a primary market?
Market for new issues of securities, as distinguished from the Secondary Market, where previously issued securities are bought and sold. A market is primary if the proceeds of sales go to the issuer of the securities sold. In other words, it refers to the initial launch of a company's shares when they first become available for a trading on the Stock Market
What is Closed End Fund?
Closed End Funds are popularly known as investment trusts. They are companies whose shares are traded like any other listed company. Because of this the number of units that the Fund Portfolio is divided into is fixed, unless the fund has a new share issue. This means that investors wishing to take part in the fund have to buy shares in it on the secondary market.
On the other hand, a unit trust continues to issue units to any new investors wishing to take part.
What are the reasons for which an IPO may be considered?
Reasons for going Public:
• Strategic Expansion
• Strengthening Marketing Avenues
• Financial Expansion
• Debt refinancing
• Business Diversification
• Merchant Banking Dimension
• Providing an Exit route for Investors
What is the argument of "Winner's Curse"?
Winner's Curse refers to the tendency for the winning bid to exceed the intrinsic value of the item being auctioned. This is common in sealed bid auctions. This argument was highlighted by Rock in 1986 when he explained the empirical evidence of under pricing in the IPOs as compensation to uninformed investors for being allocated a disproportionately large fraction of overpriced issues, relative to informed investors.
The argument assumes that investors are of two types- informed and uniformed- and accounts for under pricing as compensation to uninformed investors for being allocated a disproportionately large share of overpriced IPOs.
The marginal investor will be the least-informed investor among the investors and this investor (by virtue of being the marginal investor) makes a zero excess return. Other investors in the IPO have more precise information than that of the marginal investor and thus these investors make positive excess returns, which in turn are observed empirically as under pricing.
What are the basic steps to a Public Issue?
The following constitute the basic steps for a company venturing an IPO in the Primary Market:
• Approval of Board
• Appointment of Lead Managers
• Appointment of other Intermediaries
• Filing of Prospectus with SEBI
• Filing of Prospectus with registrar of companies
• Printing and Dispatch of Prospectus
• Filing of Initial listing Application
• Promotion of the Issue
• Statutory Announcement
• Processing of Applications
• Establishing the Liability of Underwriters
• Allotment of Shares
• Listing of the issue
Eligibility Criterion for Listed Companies for an IPO
A limited company must have the aggregate of issues, made in that financial year, and the revenue accounted by the new name has to be at least 50% of its total revenue.
Eligibility Criterion for Unlisted Companies for an IPO
An unlimited company must comply with the following conditions:
• Net tangible asset of at least 3 crores
• Net worth of at least Rs. 1 crore.
• Track record of distributable profits for at least 3 years.
What are the issues to be kept in mind for the determination of the capital and the issue structure?
• The number of new shares to be issued must be determined
• The total issued and paid-up capital is arrived at by the Directors
• The post-issue capital structure must be fixed
• The details and findings with regards to the face value, premium, & final offer price
• Minimum and Maximum amount of subscription per applicant
• Promoter's contribution must be defined
• Firm Allotments
• Net Public Offer
What are the Qualitative and Quantitative Factors for the justification of the share premium?
Qualitative Factors:
• Company's past record, and achievements
• Experience of the promoters in the relevant fields and avenues
• Credit rating by a recognised Agency
• The company''s selling propositions and business basics
• The industry scenario, and the growth prospects
• Any International recognition or Awards received, if any
• An honest perusal of prospective business opportunities
Quantitative Factors:
• The current market price & high/low for last 3 years.
• Comparison of the P/E ratio of the company and the industry
• The Book Value of the share & the Book Value multiple in relation to offer price.
• The growth rate in PAT (Profit After Tax) & EPS (Earnings Per Share) for the past year.
• SENSEX volatility of the economy at that point
What is P/E Ratio?
P/E ratio is the commonly used term for the ratio of the market price of a share to earnings per share (EPS). It could be used as an indicator of how much an investor may be willing to pay for a share for every rupee of its earnings
What is Book Building?
In the Indian context, book-building is widely used by good quality corporate issuers in order to achieve optimal pricing by generating a high level of investor interest.
SEBI guidelines define Book Building as "a process, undertaken by which a demand for the securities, proposed to be issued by a body corporate, is elicited and built-up and the price for such securities is assessed for the determination of the quantum of such securities to be issued by means of a notice, circular, advertisement, document or information memoranda or offer document".
Enumerate the various provisions for a book built issue
In case of a 100% book built issue:
• Not more than 50% of NPO (Net Public Offer) shall be allocated to QIBs (Qualified Institutional Buyers)
• Not less than 25% of NPO shall be allocated to non-institutional bidders
• Not less than 25% of NPO shall be available for allocation to retail investors
In case of a 75% book built issue:
As per Rule 19 (2) b of Securities Contracts (Regulation) Rules, 1957:
• The NPO shall consist of min of 20 Lakh shares
• Size of public offer is at least Rs.100cr
• Issue was offered to maximum extend permissible (50%) to QIBs
Process of Book Building
• The issue is marketed on a wholesale basis through a team, consisting of Book Running Lead Manager (BRLM) and Co-BRLM.
• Company issues offer document known as ''Red Herring Prospectus''
• Bidding period can be anywhere from a minimum of 5 days to a maximum of 10 days
• Each bidder can furnish three options in his bid.
• Once the bidding period closes, BRLM's and the company decide the "Issue Price"
What is a Green Shoe Option?
It is an option that allows the underwriting of an IPO to sell additional shares to the public if the demand is high. It refers to the option of allocating shares in excess of the shares included in the public issue and operating a post-listing price stabilising mechanism, which is granted to a company
through a stabilising agent
Legal Compliance during Issuance
• In case of a public issue, the draft prospectus has to be filed through a Lead Manager.
• SEBI assesses it and may suggest changes, if any, within 21 days.
• The draft prospectus can then be issued to the public any time within 365 days from the date of the letter from SEBI or if no letter is received from SEBI, within 365 days from the date of expiry of 21 days of submission of prospectus with SEBI.
• If the issue size is up to Rs. 20 crores, then the Lead Managers are required to file prospectus with the regional office of SEBI; if the issue size is more than Rs. 20 crores, Lead Managers are required to file prospectus at SEBI, Mumbai office.
• The Prospectus is also required to be filed with the concerned stock exchanges, along with the application for listing its securities.
• After the filing of the draft offer document with SEBI and the stock exchanges and making it public, the lead manager has to attend to the modifications or amendments, required at short notice.
• There must be a smooth co-ordination with registrars, bankers, advertisement agencies, brokers to the issue, underwriters to the issue, printers and couriers.
• The main function during the issuance is to ascertain daily figures from the bankers or the stock exchange and to take a decision on the closure of the issue, based on the procurement of minimum subscription. The apex members of the company must shoulder this responsibility.
• Post issuance, the company has to actively associate with the allotment, refund & dispatch and shall regularly monitor the grievances, arising therefrom
Contents of offer document/Prospectus
• Risk factors
• Issuers absolute responsibility
• Table of the contents
• Liability of Directors
• Company Hierarchy and allocations of responsibility
• General information
• Statutory information
• Financial information
• Financial statements prepared on basis of more than one system of accounting standards
• Tax Implications both for the company and the investors
• Declaration and verification by signatories to the prospectus together with signatures by themselves or through their constituted attorney.
Regards,
FREE LEGAL INFORMATION 
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