Initial Public Offering also commonly known as IPO is the process where a private limited company offers its shares to the public through stock exchanges. To elaborate, a private limited company offers a part of its ownership through shares to the public. When you buy a share of a company you are actually buying a part of ownership in the company proportional to the value of shares and also assuming the risks associated with it.
And the most important thing to note is; the company is not obligated to pay back the shareholders the price at which the shares were subscribed, that is the company might pay the investors the same amount, maybe more or even less.
Since the company offers its shares for the first time it’s called Initial Public offering.
A company issues shares to the public primaril to raise funds. Reason to raise such funds may be many, to name a few:
- To expand their business into a bigger enterprise or to make their presence across all over the country and abroad.
- To diversify their business into a new industry.
- Or to clear bank debts.
2. Are you eligible to buy shares in IPO?
If you are 18 years old and possess a PAN Card you will be eligible to buy shares in IPO. Let’s assume you are eligible, now all you have to do is open a demat account with a stock broker. Once you open a demat account you will be able to buy the shares but not sell them. That is, once the shares are allotted to you, those shares will be deposited into your demat account but to sell those shares you need to open a trading account.
Now let’s assume the stock is listed on the exchange and you want to sell the shares, to do that, you need to open a trading account. You can open a trading account with the same broker or you can open it with the new broker of your choice by linking your demat account with that broker. To link the demat account, you have to request your broker with whom you possess the demat account to generate a CMR (Client Master Report) which has to be submitted to the broker with whom you want to open a trading account.
Once the trading account is opened, the broker will provide you a trading platform using which you can access the secondary market or stock market where you can easily sell your shares. It’s advisable to open both trading and demat account simultaneously.
3. How to buy shares in an IPO?
- Let’s assume you found out in an advertisement that XYZ company has filed for an IPO. Best way to get comprehensive information of XYZ company is through their prospectus. You can find the prospectus on SEBI’s website.
The company’s prospectus consists of the following information:
After reading all the details about the company, if you are convinced, you can apply for an IPO through your broker once the broker starts accepting applications for IPO. In india the subscription time will be for 3 days from 10 am on day 1 to 4 pm on day 3.
In the application, you have to place a bid to subscribe the shares as per lot size within the fixed price band. Price band indicates two levels; upper limit and floor price, between which the buyer can place the bid.
Once the bid is placed, the buyer will get the shares if his bid matches the cut-off price or is greater than the cut-off price. For your better understanding refer to the example below.
- About the company:In this section, company explains about the industry they are in, their business, management etc.
- Financial Statement:Here the financial statement of the company will be displayed with other financial information, management’s perspective on the financial condition of the company etc.
- Legal and Other information:All the legal information with regards to the issue of shares and other legal information is mentioned in this section.
- Issue Related Information:Here they explain the terms of issue of shares, issue structure, issue procedure etc.
Example: Assume the price band is between 100 to 110 and the cut-off price is 105.
Before you apply for an IPO, you need to understand the allotment classes of an IPO.
- If your bid is below 105 you won’t get the shares.
- If your bid is 105, you will get the shares.
- If your bid is above 105, let’s say 107, the price difference between the bid and cut-off price will be refunded.
There are 3 classes of allotment:
- Retail Individual Investors (RII’s):These are individuals who apply for shares worth less than Rs. 2 lakhs. At least 35% of the issue offer is reserved for RII’s.
- High Networth Individuals (HNI’s):These are individuals who apply for shares worth more than 2 lakhs. At least 15% fo the issue offer is reserved for HNI’s.
- Qualified Institutional Buyers (QIB’s):The allotment of shares for QIB’s is at the discretion of the merchant bankers, but the shares will be allotted proportionally. Meaning, if an applicant bids for 1,00,000 shares and the shares are oversubscribed by 5 times, the applicant will receive only 20,000 shares.
Note before Investing:
Applications Supported by Blocked Amount (ASBA):ASBA is the new rule imposed by SEBI. According to this rule, the buyer does not have to pay money until allotment. The amount equal to your bid/application will be blocked in your bank account/trading account, upon allotment of shares only the amount equal to the shares allotted will be debited.
Example:If you have placed a bid for Rs. 2,00,000 worth shares and you are allotted only Rs. 50.000 worth shares, then only Rs. 50,000 will be debited and the Rs. 1,50,000 will be unblocked.