INITIAL PUBLIC OFFERING

INITIAL PUBLIC OFFERING

An initial public offering (IPO) is a specific case of public issue; it is the

first equity offering by a company to the public at large. Initial Public Offering (IPO) in India
means the selling of the shares of a company, for the first time, to the public in the country's
capital markets. The shares are then listed on the stock exchange to facilitate trading in them.
Thus IPO is basically company’s first sale of stock to the public. Typically an IPO involves
stocks from young and often times, little known companies. But occasionally well established
and well known firms do go public. The various reasons for a firm to go public are:

 Increasing company’s financial base

 Enhancing liquidity
 Setting right the capital structure of the company
 Regulatory compulsions

Companies fall into two broad categories: private and public.

A privately held company has fewer shareholders and its owners don't have to disclose much
information about the company. Anybody can go out and incorporate a company: just put in
some money, file the right legal documents and follow the reporting rules of your
jurisdiction. Most small businesses are privately held. But large companies can be private too.
IKEA, Domino's Pizza and Hallmark Cards are all privately held.

It usually isn't possible to buy shares in a private company. You can approach
the owners about investing, but they're not obligated to sell you anything. Public companies,
on the other hand, have sold at least a portion of themselves to the public and trade on a stock
exchange. This is why doing an IPO is also referred to as "going public."

Public companies have thousands of shareholders and are subject to strict rules
and regulations. They must have a board of directors and they must report financial
information every quarter. From an investor's standpoint, the most exciting thing about a
public company is that the stock is traded in the open market, like any other commodity. If
you have the cash, you can invest.
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RECENT IPO DATA

FRESH CAPITAL OFFERS FOR SALE TOTAL

YEAR NO.OF AMOUNT NO. OF AMOUNT NO. OF AMOUNT

IPOs (Rs.crore) IPOs (Rs.crore) IPOs (Rs.crore)
2003-04 16 1813.42 5 1377.68 19 3191.10
2004-05 21 8099.59 9 6562.73 23 14662.32
2005-06 76 9130.21 11 1667.67 76 10797.88
2006-07 74 22745.44 12 960.72 76 23706.16
2007-08 82 38634.65 9 2688.81 84 41323.45
2008-09 21 1985.08 3 48.92 21 2033.99

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.

APPLYING FOR AN IPO IN INDIA

When a firm proposes a public issue or IPO, it offers forms for submission to
be filled by the shareholders. Public shares can be bought for a limited period only and as per
the law, any IPO should be traded openly only for minimum 3 days and 21 days maximum.
For offers that are sponsored by financial institutions, the proposal should be traded for
maximum 21 days and minimum 3 days. For offers that are sponsored by India financial
institutions, the proposal should be traded for maximum 10 days. The submission form
should be duly filled up and submitted by cash, cheque or DD prior to the closing date, in
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accordance with the guidelines mentioned in the form. IPO's by investment firms generally
entail countersigned charges which signify a load to purchasers.

VALUATION OF PUBLIC ISSUES

Investment analysts say that IPO valuation process is as much art as

science. Values are based on several factors: issuers’ historical and projected financial
results: valuation of comparable companies and investment banker’s assessment of market
conditions and investor’s demand for new issues.

There are various concepts regarding pricing of public issues:

 ISSUE PRICE – it is the price at which equity shares are offered to the public. It can
be priced at par, premium or discount.
 LIST PRICE – it is the market price on the first day of trading after listing on stock
exchange.
 FAIR VALUE – it is the price which reflects the intrinsic value or true worth of a
share.

IPO PRICING MECHANISM

There are two methods for making initial public issue:-

 Fixed Pricing Method - where the company fixes a price at which the shares will be
offered to the public.
 Book Building method - where the company stipulates a floor price or a price band
and leaves it to market forces to determine the final price.

Features Fixed Price process Book Building process

Pricing Price at which the securities are Price at which securities will be offered/
offered/ allotted is known in advance allotted is not known in advance to the
to the investor. investor. Only an indicative price range is
known.
Demand Demand for the securities offered is Demand for the securities offered can be
known only after the closure of the known everyday as the book is built.
issue.
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Payment Payment if made at the time of Payment only after allocation.

subscription wherein refund is given
after allocation.

THE PROCESS OF BOOK BUILDING:

 The Issuer who is planning an IPO nominates a lead merchant banker as a 'book
runner'.
 The Issuer specifies the number of securities to be issued and the price band for
orders.
 The Issuer also appoints syndicate members with whom orders can be placed by the
investors.
 Investors place their order with a syndicate member who inputs the orders into the
'electronic book'. This process is called 'bidding' and is similar to open auction.
 A Book should remain open for a minimum of 5 days.
 Bids cannot be entered less than the floor price.
 Bids can be revised by the bidder before the issue closes.
 On the close of the book building period the 'book runner evaluates the bids on the
basis of the evaluation criteria which may include -
 Price Aggression
 Investor quality
 Earliness of bids, etc.
 The book runner and the company conclude the final price at which it is willing to
issue the stock and allocation of securities.
 Generally, the number of shares is fixed; the issue size gets frozen based on the price
 Per share discovered through the book building process.
 Allocation of securities is made to the successful bidders.
 Book Building is a good concept and represents a capital market which is in the
process of maturing.
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In case the issuer chooses to issue securities through the book building route then as per SEBI
guidelines, an issuer company can issue securities in the following manner:

a. 100% of the net offer to the public through the book building route.
b. 75% of the net offer to the public through the book building process and 25% through
the fixed price portion.
c. Under the 90% scheme, this percentage would be 90 and 10 respectively

IPO GRADING

IPO grading is the grade assigned by a Credit Rating Agency registered with
SEBI, to the initial public offering (IPO) of equity shares or any other security which may be
converted into or exchanged with equity shares at a later date. The grade represents a relative
assessment of the fundamentals of that issue in relation to the other listed equity securities in
India. Such grading is generally assigned on a five-point point scale with a higher score
indicating stronger fundamentals and vice versa as below:

IPO grade 1: Poor fundamentals

IPO grade 2: Below-average fundamentals

IPO grade 3: Average fundamentals

IPO grade 4: Above-average fundamentals

IPO grade 5: Strong fundamentals

SEBI GUIDELINES
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The primary authority for regulating IPO's is the SEBI (Securities and Exchange Board of
India). It issues guidelines for regulating the procedures and activities of new public .issues.

These guidelines are known as Disclosure and Investor Protection (DIP) Guidelines. Under
this, SEBI has laid down following eligibility norms for entities accessing the primary market
through public issues:-

A company can make an IPO if it meets the following requirements-

 It has net tangible assets of at least Rs. 3 crores in each of the preceding 3 full years,
of which not more than 50% should be in monetary assets.
 It has distributable profits in at least three years as per the terms of the Companies
Act.
 It has a net worth of at least Rs.1 crore in three years. The net worth is the aggregate
value of paid-up equity capital and free reserves excluding the aggregate value of
accumulated losses and deferred expenditure not written off.
 In case of change of its name within the last one year, at least 50% of the revenue for
preceding 1 year is earned by the company from the activity suggested by the new
name.
 The issue size does not exceed 5 times the pre-issue net worth.

BENEFITS OF IPO

Taking a company public through an Initial Public Offer (IPO) is a major task for any
entrepreneur. The benefits of going public through IPO are:-

 It allows companies to have greater access to the most substantial source of corporate
funding. The companies can also return to the market for additional equity through
secondary equity offerings.
 It helps the company to institute stock options for its employees and to attract more
talent to their organization.
 It attracts media attention and helps in marketing the products of the company.
 It helps to expand business relationships of the companies with their partners,
suppliers, debtors as well as customers.
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 It facilitates the mergers and acquisitions activities of the companies and provide them
with the greater flexibility in raising finances.

For many entrepreneurs and top managers of companies, the process and event of going
public mark the culmination of years of hard work, public recognition of success and long
delayed financial rewards. Going public gives an opportunity for their business growth, brand
equity as well as brings some legal responsibilities for them. It involves sharing of ownership
of the company, business opportunities as well as the control over the company's future.

ADVANTAGES OF GOING PUBLIC

 INCREASED CAPITAL

A public offering will allow a company to raise capital to use for various
corporate purposes such as working capital, acquisitions, research and development,
marketing, and expanding plant and equipment.

 LIQUIDITY

Once shares of a company are traded on a public exchange, those shares have
a market value and can be resold. This allows a company to attract and retain employees by
offering stock incentive packages to those employees. Moreover, it also provides investors in
the company the option to trade their shares thus enhancing investor confidence.

 INCREASED PRESTIGE

Public companies often are better known and more visible than private
companies, this enables them to obtain a larger market for their goods or services. Public
companies are able to have access to larger pools of capital as well as different types of
capital.

 VALUATION

Public trading of a company's shares sets a value for the company that is set by
the public market and not through more subjective standards set by a private valuator. This is
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helpful for a company that is looking for a merger or acquisition. It also allows the
shareholders to know the value of the shares.

 INCREASED WEALTH

The founders of the company often have the sense of increased wealth as a
result of the IPO. Prior to the IPO these shares were illiquid and had a more subjective price.
These shares now have an ascertainable price and after any lockup period these shares may
be sold to the public, subject to limitations of federal and state securities laws.

DISADVANTAGES OF GOING PUBLIC

 TIME AND EXPENSE

Conducting an IPO is time consuming and expensive. A successful IPO can

take up to a year or more to complete and a company can expect to spend several hundreds of
thousands of dollars on attorneys, accountants, and printers. In addition, the underwriter's
fees can range from 3% to 10% of the value of the offering. Due to the time and expense of
preparation of the IPO, many companies simply cannot afford the time or spare the expense
of preparing the IPO.

 DISCLOSURE

The SEC disclosure rules are very extensive. Once a company is a reporting
company it must provide information regarding compensation of senior management,
transactions with parties related to the company, conflicts of interest, competitive positions,
how the company intends to develop future products, material contracts, and lawsuits. In
addition, once the offering statement is effective, a company will be required to make
financial disclosures required by the Securities and Exchange Act of 1934. The 1934 Act
requires public companies to file quarterly statements containing unaudited financial
statements and audited financial statements annually. These statements must also contain
updated information regarding nonfinancial matters similar to information provided in the
initial registration statement. This usually entails retaining lawyers and auditors to prepare
these quarterly and annual statements.
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 DECISIONS BASED UPON STOCK PRICE

Management's decisions may be effected by the market price of the shares and
the feeling that they must get market recognition for the company's stock.

 REGULATORY REVIEW

The Company will be open to review by the SEC to ensure that the company
is making the appropriate filings with all relevant disclosures.

 FALLING STOCK PRICE

If the shares of the company's stock fall, the company may lose market
confidence, decreased valuation of the company may affect lines of credits, secondary
offering pricing, the company's ability to maintain employees, and the personal wealth of
insiders and investors.

 VULNERABILITY

If a large portion of the company's shares are sold to the public, the company
may become a target for a takeover, causing insiders to lose control. A takeover bid may be
the result of shareholders being upset with management or corporate raiders looking for an
opportunity. Defending a hostile bid can be both expensive and time consuming. Once a
company has weighed the advantages and disadvantages of being a public company, if it
decides that it would like to conduct an IPO it will have to retain a lead

PARAMETERS TO JUDGE AN IPO

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Good investing principles demand to study certain details prior to investing in

an IPO. Here are some parameters to be evaluated:-

 PROMOTERS

Is the company a family run business or is it professionally owned? Even with

a family run business what are the credibility and professional qualifications of those
managing the company? Do the top level managers have enough experience (of at least 5
years) in the specific type of business?

 INDUSTRY OUTLOOK

The products or services of the company should have a good demand and
scope for profit.

 BUSINESS PLANS

Check the progress made in terms of land acquisition, clearances from various
departments, purchase of machinery, letter of credits etc. A higher initial investment from the
promoters will lead to a higher faith in the organization.

 FINANCIALS

Why does the company require the money? Is the company floating more
equity than required? What is the debt component? Keep a track on the profits, growth and
margins of the previous years. A steady growth rate is the quality of a fundamentally sound
company. Check the assumptions the promoters are making and whether these assumptions
or expectations sound feasible.

 RISK FACTORS

The offer documents will list our specific risk factors such as the company’s
liabilities, court cases or other litigations. Examine how these factors will affect the
operations of the company.

 KEY NAMES

Every IPO will have lead managers and merchant bankers. You can figure out
the track record of the merchant banker through the SEBI website.
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 PRICING

Compare the company’s PER with that of similar companies. With this you
can find out the P/E Growth ratio and examine whether its earning projections seem viable.

 LISTING

You should have access to the brokers of the stock exchanges where the
company will be listing itself.

IPO SCAMS

IPO Scams are well structured game played by the absolute opportunists
consisting of intermediaries, financiers and bank employees, who make a lot of money by
controlling shares meant for retail investors in Initial Public Offer (IPO), as the per the
statement of the Securities Exchange Board of India. In the last few years, the capital market
in India went through a rapid transformation. The increased use of information technology
and the integration of financial markets have stepped up the risk profile of the capital market.

The two major IPO scams in the Indian Capital market were the Harshad Mehta scam in the
year 1992 and the Ketan Parekh scam in the year 2001. The IPO Scams opened
up the latent loopholes in the Indian capital market

IPO SCAMS - CAUSES

 Two of the most common factors of the major IPO scams in India were the tacit
consent of the banks and the poor surveillance techniques.
 The Depository Participants must be provided the proof of identity and proof of
address as a routine check for the opening demat accounts. This was not followed.
 Numerous dematerialized accounts and bank accounts had been opened under false
names and the IPO applications were made in non existing names.

IPO SCAMS - HOW IT WAS DONE?

 At first bank accounts were opened up in fictitious or "benami" names, which allowed
these fictitious account holders to open demat accounts.
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 The master account holders, the person who had executed the planning acts as an
intermediary on behalf of the financiers.
 The shares acquired at the IPOs were disposed on the date of listing at a premium to
get more than the amount of money invested.

The banks played an important part by means of opening bank accounts and giving loans to
the fictitious entities for the purpose of earning fee incomes.

BIBLIOGRAPHY

http://en.wikipedia.org/wiki/Initial_public_offering
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