IPO Terminology: In the past years, retail investors have been lured by the temptation of high profits as over 100 companies have gone public, resulting in significant gains. Investing in an IPO presents an attractive opportunity to earn substantial returns with relatively low risk in the short term. Nevertheless, there are several IPO terms involved in the process, and comprehending them is crucial to guarantee that the issue opens at a premium rather than a discount.
What is an IPO?
An IPO (Initial Public Offering) is the first sale of shares by a privately held company to the public, allowing the company to raise capital from a wide range of investors. In an IPO, the company hires an investment bank or group of banks to underwrite the offering and help the company navigate the regulatory and legal requirements associated with going public. The shares are typically sold at a fixed price to institutional investors, retail investors, and other interested parties, and then traded on a stock exchange, such as the NSE or BSE. Going public via an IPO is often seen as a significant milestone for a company, as it provides access to new sources of capital and can increase its public profile and brand recognition.
Here are some of the most common terms used in the IPO Terminology
- IPO: Initial Public Offering is the first sale of stock by a company to the public.
- Prospectus: A legal document that provides information about the issuer and the shares being offered, including financial statements, risk factors, and other relevant information.
- Underwriter: An investment bank or group of investment banks that help the issuer to go public by buying the shares from the issuer and reselling them to the public.
- Offering price: The price at which the shares are sold to the public. This price is typically determined by the underwriter and the issuer based on market demand and other factors.
- Shares: A unit of ownership in a company that is being offered to the public in an IPO.
- Lock-up period: A period of time, typically 90 to 180 days after the IPO, during which insiders and other shareholders are prohibited from selling their shares.
- Greenshoe option: An option granted to the underwriter to buy additional shares from the issuer at the offering price, in case there is strong demand for the shares.
- Stabilization: A process used by the underwriter to support the market price of the shares during the first few days of trading after the IPO.
- Quiet period: A period of time, typically 25 days after the IPO, during which the issuer and its underwriters are prohibited from making public statements about the company or the offering.
- Book building: The process of generating demand for the shares by contacting potential investors and collecting their indications of interest at various price levels.
- Allocation: The process of determining how many shares each investor will receive in the IPO.
- IPO roadshow: A series of meetings between the issuer and potential investors to promote the IPO and provide information about the company and the offering.
- Primary market: The market in which new securities are issued and sold for the first time, such as in an IPO.
- Secondary market: The market in which previously issued securities are bought and sold, such as stock exchanges.
Draft Red Herring Prospectus
A Draft Red Herring Prospectus (DRHP) is a preliminary document filed with the Securities and Exchange Board of India (SEBI) by a company planning to go public through an initial public offering (IPO). The DRHP contains detailed information about the company, including its business operations, financial statements, risk factors, and other relevant information. The document is called a “red herring” because it includes a warning on its cover page that the information contained within the document is subject to change and may not be complete, and that investors should not base their investment decisions solely on the information in the document.
The DRHP is not the final prospectus and is subject to review by SEBI and other regulatory agencies before the final prospectus is issued. Once the DRHP is approved by the regulatory agencies, the company can issue the final prospectus and begin the process of selling shares to the public through the IPO. The DRHP is an important document for potential investors because it provides a detailed look at the company’s operations and financials, allowing them to make an informed decision about whether to invest in the IPO.
Anchor Investor
An Anchor Investor is a large institutional investor who is offered a significant portion of the shares in an initial public offering (IPO) before the shares are offered to the public. Anchor investors are typically hedge funds, mutual funds, or other large investment firms that have a long-term investment strategy and are willing to make a substantial investment in the company.
The purpose of anchor investors is to help generate interest and confidence in the IPO, as their involvement can signal to other investors that the offering is a good opportunity. Anchor investors may also provide stability to the share price in the early days of trading after the IPO.
Anchor investors are usually offered shares at a discount to the IPO price, and they are required to hold the shares for a minimum period of time, typically six months to one year, before selling them. The minimum investment amount for anchor investors is usually much higher than that for other investors, and they may also have access to additional information about the company that is not available to the general public.
Stockbroker
A Stockbroker is a licensed professional who buys and sells securities on behalf of clients, typically individuals or institutions. Stockbrokers are also referred to as Registered Representatives, Financial Advisors, or Investment Advisors.
Stockbrokers work for brokerage firms and are required to pass a series of exams and obtain a license from the Financial Industry Regulatory Authority (FINRA) before they can buy and sell securities on behalf of clients. They provide investment advice to their clients based on their financial goals and risk tolerance, and they execute trades in stocks, bonds, mutual funds, and other securities on behalf of their clients.
Stockbrokers earn a commission on the trades they execute, as well as fees for providing investment advice and other services to their clients. Some stockbrokers also provide additional services such as financial planning, retirement planning, and estate planning to their clients. It is important to note that not all financial advisors are stockbrokers, and not all stockbrokers provide comprehensive financial planning services.
Cut Off Price
The Cut Off Price is the final price at which shares are allocated and sold in an initial public offering (IPO). It is the price at which the demand for shares matches the number of shares available for sale. In other words, the cut off price is the highest price at which all shares in the IPO can be sold.
Investors who bid for shares in the IPO at or above the cut off price will receive shares at the cut off price, while investors who bid below the cut off price will not receive any shares. The cut off price is determined through a process called book building, in which the lead underwriter for the IPO collects bids from institutional and retail investors and determines the demand for shares at various price levels.
The cut off price is important because it determines the final price that investors pay for shares in the IPO. If the cut off price is higher than the expected price range, investors who bid for shares at the expected price range will receive shares at the cut off price and may end up paying more than they anticipated. Conversely, if the cut off price is lower than the expected price range, investors who bid for shares at the expected price range will receive shares at the lower cut off price and may get a better deal than they anticipated.
Bid Lot
A Bid Lot is the minimum number of shares that an investor can bid for in an initial public offering (IPO) or follow-on public offering. The bid lot is set by the issuer or underwriter of the offering and is typically a multiple of 10 or 100 shares.
For example, if the bid lot is set at 100 shares, an investor can bid for a minimum of 100 shares in the IPO, and any additional shares must be in multiples of 100. If an investor wants to bid for 200 shares, they must bid for two bid lots of 100 shares each.
The bid lot is set to ensure that the offering is accessible to a broad range of investors, and to facilitate the allocation of shares in the IPO. It also helps to prevent small investors from being crowded out by larger investors, who may be willing and able to bid for a large number of shares.
Investors should be aware of the bid lot when considering whether to invest in an IPO, as it can affect the total amount of money they need to invest, as well as the number of shares they receive. Investors who bid for fewer shares than the bid lot may not receive any shares at all, while investors who bid for more shares than the bid lot may receive only a portion of the shares they requested.
ASBA
ASBA stands for “Application Supported by Blocked Amount”. It is a payment mechanism used in initial public offerings (IPOs) in which the bid amount is blocked in the investor’s bank account instead of being deducted from the account.
Under the ASBA process, investors apply for shares in an IPO through their bank by filling out an ASBA application form and authorizing their bank to block the bid amount in their bank account. The bid amount is then kept in the investor’s account until the allotment process is complete, and the shares are allocated to the investor.
Once the shares are allocated, the bid amount is debited from the investor’s bank account, and any remaining amount is unblocked. The ASBA process eliminates the need for investors to transfer funds to a separate escrow account or issue cheques, as the bid amount remains in their bank account until the allotment is complete.
The ASBA process is considered a more efficient and secure payment mechanism than traditional payment methods in IPOs, as it reduces the time required for refund processing and eliminates the risk of fraudulent cheques. The Securities and Exchange Board of India (SEBI) made it mandatory for all retail investors to apply for shares in IPOs through the ASBA process in 2010.
Allotment
Allotment refers to the process of assigning shares to successful bidders in an initial public offering (IPO) or follow-on public offering. Once the bidding process is complete, the lead underwriter for the offering will determine the demand for shares at various price levels and the final price at which the shares will be sold, which is known as the cut off price.
Based on the demand for shares and the cut off price, the lead underwriter will allocate shares to investors who bid for shares in the IPO. The number of shares allocated to each investor will depend on the number of shares they bid for and the total number of shares available for sale.
The allotment process typically takes a few days after the bidding process is complete, and investors can check the status of their allotment by visiting the website of the stock exchange where the IPO was listed or by contacting their broker.
Investors who are allotted shares in the IPO will be required to pay the full amount for the shares, which includes the bid amount and any applicable taxes and fees. Once the payment is made, the shares will be credited to the investor’s demat account, and they can start trading the shares on the stock exchange.
It’s important to note that not all investors who bid for shares in the IPO may receive an allotment, as the demand for shares may exceed the number of shares available for sale. In such cases, investors who bid below the cut off price may not receive an allotment at all, while investors who bid at or above the cut off price may receive a partial allotment, depending on the demand for shares.
Issue Price
The issue price refers to the price at which new shares are offered to the public in an initial public offering (IPO) or a follow-on public offering. The issue price is determined by the issuer or underwriter of the offering based on a variety of factors, including market conditions, demand for the shares, and the financial health and future growth prospects of the company.
In an IPO, the issue price is usually set based on the bids received from investors during the book-building process. The lead underwriter for the offering sets a price range within which investors can bid for shares, and the final issue price is determined based on the demand for shares at various price levels.
In a follow-on public offering, the issue price is usually set at a discount to the current market price of the shares to encourage investors to buy the new shares. The discount is typically smaller for larger, more established companies that are perceived to be lower risk, and larger for smaller or riskier companies.
The issue price is an important consideration for investors in an IPO or follow-on public offering, as it determines the initial value of their investment. If the issue price is set too high, investors may be reluctant to buy the shares, while if the issue price is set too low, the company may not raise as much capital as it could have.
It’s worth noting that the issue price is not necessarily the same as the market price of the shares once they start trading on the stock exchange. The market price of the shares will be determined by supply and demand, and may be higher or lower than the issue price, depending on a variety of factors.
Listing Date
Listing date refers to the date on which the shares of a company are first traded on a stock exchange after an initial public offering (IPO) or a follow-on public offering. It is the date when the shares become available for trading to the public on the stock exchange.
After an IPO, the company’s shares are listed on one or more stock exchanges, and the listing date is typically a few days after the allotment of shares to investors. On the listing date, the shares are available for trading on the stock exchange, and investors can buy and sell the shares based on the demand and supply in the market.
Listing date is an important event for the company and its investors, as it marks the beginning of the company’s journey as a publicly-traded entity. It also provides investors with a chance to buy or sell shares in the company on the stock exchange, which can help to determine the market price of the shares.
Companies may choose to list their shares on a domestic or international stock exchange, depending on their business operations and growth plans. The listing process involves meeting the requirements of the stock exchange, including regulatory filings, disclosure requirements, and compliance with listing rules.
Investors who have been allotted shares in the IPO or follow-on public offering can check the status of their shares on the listing date by accessing their demat account or contacting their broker. They can also monitor the price movements of the shares on the stock exchange to assess the performance of their investment.
Qualified Institutional Buyer [QIB]
A Qualified Institutional Buyer (QIB) is an institutional investor who is considered knowledgeable and sophisticated enough to participate in certain securities offerings that are not available to retail investors. QIBs typically include entities such as mutual funds, pension funds, insurance companies, investment banks, and hedge funds.
In India, QIBs are defined by the Securities and Exchange Board of India (SEBI) and are eligible to participate in IPOs, follow-on public offerings, and other securities offerings that are open only to institutional investors. QIBs are required to have a minimum net worth of Rs. 100 crore or a minimum investment limit of Rs. 10 crore in the offering.
QIBs are considered to be a key source of demand for securities offerings, as they can provide large amounts of capital and are often able to make informed investment decisions based on their expertise and resources. QIBs are typically offered a larger allocation of shares in an IPO or follow-on public offering than other categories of investors, such as retail investors.
The participation of QIBs in a securities offering can be an important indicator of the quality of the offering and can influence the pricing and demand for the shares. As such, companies and underwriters often place a significant emphasis on attracting QIBs to participate in the offering.
Overall, the presence of QIBs in the securities market can help to improve liquidity and efficiency, while also providing issuers with access to a pool of sophisticated and well-funded investors.
Retail Individual Investor [RII]
A Retail Individual Investor (RII) is an individual investor who participates in securities offerings, such as initial public offerings (IPOs) and follow-on public offerings, typically with smaller investment amounts than institutional investors. RII’s are also referred to as individual or small investors.
In India, RII’s can invest up to Rs. 2 lakh in an IPO or follow-on public offering, and are often allocated a smaller number of shares compared to institutional investors such as Qualified Institutional Buyers (QIBs) or Non-Institutional Investors (NIIs).
RII’s can invest in securities offerings through their Demat accounts or through physical application forms. They are not required to meet the same eligibility criteria as institutional investors, such as minimum net worth or investment limits.
RII’s are an important category of investors as they represent a large portion of the investing public and can provide stability to the market through their long-term investment approach. They also contribute to the overall liquidity of the market and can help to provide price support for shares of newly-listed companies.
For RII’s, investing in securities offerings requires a good understanding of the company’s financials, industry trends, and overall market conditions. They should carefully review the prospectus and seek guidance from their stockbroker or financial advisor before making an investment decision.
Overall, RII’s play an important role in the securities market by providing liquidity, stability, and diversity to the investor base.
Red Herring Prospectus [RHP]
A Red Herring Prospectus (RHP) is a preliminary version of a prospectus that is filed with the Securities and Exchange Board of India (SEBI) by a company that is planning to issue securities to the public. The RHP contains all the information about the company, its business, and the securities being offered, but it does not include the final issue price or the issue size.
The term “red herring” refers to the fact that the RHP contains a disclaimer in red ink stating that the information contained in the document is incomplete and subject to change. The RHP is used to generate investor interest in the securities offering and to gauge demand for the securities.
The RHP typically contains information about the company’s business and operations, financial statements, management team, and risks associated with the business. It also includes details about the proposed securities offering, such as the type of securities being offered, the proposed issue size, and the intended use of the proceeds.
After the RHP is filed with SEBI, the company and its underwriters may conduct a roadshow to market the securities to potential investors. Based on investor feedback and demand, the final issue price and issue size are determined and included in the prospectus, which is the final document used to sell the securities.
Overall, the RHP is an important document in the securities offering process, as it provides investors with the initial information they need to make informed investment decisions. It also helps the company and its underwriters to gauge investor interest and demand for the securities.
Bonus Issues/ Dividend
Bonus issue, also known as a scrip dividend, is an additional share issued by a company to its existing shareholders free of cost. Bonus shares are issued by a company out of its profits or reserves and are generally given to shareholders as a reward for their loyalty and investment in the company.
When a company announces a bonus issue, it increases the number of shares outstanding without affecting the market capitalization or the total value of the company. For example, if a company announces a 1:1 bonus issue, it means that for every one share held by an existing shareholder, the company will issue one additional share for free.
Bonus issues can have several benefits for the company and its shareholders. From the company’s perspective, bonus issues can help to conserve cash, improve liquidity, and increase the number of shares outstanding, which can improve the trading liquidity of the stock. From the shareholders’ perspective, bonus issues can increase the total value of their investment, as they will now hold more shares in the company.
Bonus issues are generally considered a positive signal by the market, as they indicate that the company is performing well and has sufficient reserves to issue bonus shares. However, bonus issues should not be the only factor considered by investors when making investment decisions, as other factors such as the company’s financial performance, management quality, and industry trends should also be taken into account.
Brokerage
In the context of financial markets, brokerage refers to the commission charged by a stockbroker or brokerage firm for facilitating the buying and selling of securities on behalf of investors. The brokerage fee is usually a percentage of the total transaction value and can vary depending on the type of security being traded, the size of the transaction, and the brokerage firm’s policies.
Brokers can charge different types of brokerage fees, including full-service brokerage, discount brokerage, and online brokerage. Full-service brokers offer a wide range of services to their clients, including investment advice, research, and trading recommendations. They generally charge higher brokerage fees than discount or online brokers, who offer more limited services at a lower cost.
The brokerage fee is an important consideration for investors when choosing a broker, as it can impact the overall return on their investment. Lower brokerage fees can lead to higher returns, especially for frequent traders who make multiple transactions.
It’s important for investors to understand the brokerage fees associated with their trades and to consider them along with other factors such as the broker’s reputation, reliability, and customer service when selecting a broker. In addition, investors should also be aware of any other fees or charges that may be associated with their account, such as account maintenance fees, inactivity fees, and margin fees, which can also impact the overall cost of investing.