Initial public Offering (IPO) and Follow on Public Offering

Initial Public Offering (IPO)

If a closely held company i.e. a company in which all the shares are held by the promoter wants to raise funds for the first time by selling its shares to the interested investor then it is termed as IPO of that company. For this purpose an application known as Draft Red Herring Prospectus is filed to get the permission with SEBI. The prospectus is named so because the cover page of the prospectus is printed in red. This concept was borrowed from the American Stock Market.

Once the permission is granted the company hires merchant banking companies or investment banking companies that evaluate the financial health of the company and even its future prospects. Based on that it is decided that over the value of the share how much premium can be added while selling the shares. Thereafter the company comes out with advertisements. The interested investors transfer money from their bank account directly and the shares are transferred to their Demat account directly by the company without any role of the stock exchange. Demat Account – Dematerialized account is an electronic account in which shares are stored in an electronic form.

Once the shares are sold to the interested investors a date is decided from when these shares of the company can be traded even on the stock exchange. This is referred to as a Listing of the Company on the stock exchange. The shares which have been sold by the promoter and which can be traded freely on the stock exchange are termed as free float shares of the company.

If in the case through IPO shares that have been offered have been oversubscribed then in that case a company may issue an additional 15% of the shares which were being offered initially.

This is referred to as the Greenshoe Option. It is named so because it was used for the first time by a British shoe manufacturing company Greenshoe. If in case the shares remain undersubscribed then one of the merchant banking companies will be responsible for buying those undersubscribed shares. This is known as the Underwriting of Shares. This merchant banking company will be termed as the lead manager in this process. So far the largest IPO in India has been of LIC (Life Insurance Corporation). Paytm (One97 Communications Ltd.) is the second-largest IPO in India. The largest IPO in the world is Saudi Aramco.

Follow on Public Offering (FPO)

If an already listed company wants to sell some additional shares in order to raise additional funds from the capital market then it can be done either through FPO or through Rights Issue.

Through FPO an already listed company may sell its additional shares to any interested investor at a price that is below the market price of the shares. But generally, the FPO of a company fails because investors try to sell the existing share at market price and buy shares through FPO at a discounted price. So, the market price of the share of that company falls down to the discounted FPO price. In order to get rid of this problem a company uses Rights Issues as an instrument. Even in this case, no role is played by the stock exchange.