IPO and its importance
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Initial public offering (IPO) is an offering of stock or shares to the general public by a company which wants to raise capital for the first time. Following an IPO, the company gets listed and its shares are traded on stock exchanges.
Sometimes, the owner of a company, who holds most of the shares in a company, sells his/her holdings in the market to raise money for himself /herself through offer for sale of shares.
Such offer for sale of shares is also known as IPO if this is happening for the first time and will lead to listing of the company on stock exchanges.
Many a time, the government might be offering IPOs under its disinvestment policy . In a disinvestment, government sells a part or the entire holding in a public sector company through offer for sale of shares to public.
Who gets the money in an IPO?
The money paid by investors for an IPO goes directly to the company. However, in the offer for sale of shares in the course of disinvestment, the money goes to the government.
Once the permission to trade these shares are granted to shareholders, the profit or loss incurred on the transactions accrues to the shareholders. The future profits made by a company are also distributed among shareholders as dividend.
How is the IPO done?
IPOs can be made through the fixed price method, book building method or a combination of both. In the fixed price method, the price at which the securities are offered is fixed in advance.
In the book building method, the investors have to bid for shares within a price band specified by the issuer and the final price is decided after observing the result of the bidding.
The fixing of the band and the bidding process are done with the help of a bookrunner, typically an investment bank or a group of several companies specializing in securities.
How is the band decided?
While most companies that are eligible to make a public issue are free to price their shares, a few like infrastructure companies are subject to compliance with SEBI norms and banks are required to get RBI's permission.
The prices are decided by the company's board of directors , which fixes the band after consulting the bookrunner. In India , the issuer is allowed a price band of 20% (that is the cap of band should not be more than 20% above the floor price).
In Coal India Limited's (CIL) case, for instance, the floor price was Rs 225 while the cap was at Rs 245.
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How is the final price decided?
After deciding the band, bids are invited on all prices of the band, which means in CILs case there were bids at 21 prices. Apart from the prices of the band, retail individual investors may also bid at the cutoff, which means they are allowed to say that they will buy the number of shares they are asking for at whatever price is ultimately determined.
Once the book is closed, the seller fixes the price at which all of its shares will get sold. In case of CIL shares offer, it is the government which will fix the final offer price. In this, there were bids totalling to 961 crore shares, or about 15 times the number on offer.
Why are there two figures, Rs 15,500 crore and Rs 2.36 lakh crore?
The first figure is the estimate of the money which the government would have raised if it managed to sell all the shares offered at the highest price of the band. The second is the combined value of all the bids actually received.
What happens to the extra bids?
As the government can only sell the initially fixed 63 crore shares, it will do so in this case at the highest price. So, those who bid at Rs 245 or the cutoff will be eligible for allocation of shares, where bids for lower prices will not.
In the retail and non-institutional category, the allocation will be done proportionately between all those who bid at that price.
So, for instance, if these categories have been oversubscribed say 10 times at the relevant price, each bidder will get only one-tenth of the amount he has bid for.