Sunday, November 28, 2010

IPO Process Explained

We all know what an IPO is and what the purpose of an IPO is for the company issuing the share. But, not many of us know the different requirements that a company must satisfy in order to go public and the different stages in the life cycle of an IPO. The purpose of this article is to elaborate on this. So, lets get started.

What is an IPO – To Refresh:

An IPO stands for Initial Public Offering, wherein a company issues its shares to the public for the first time. Investors can place requests to buy these shares and once done, the share gets listed in a registerd stock exchange and the company uses the share issue proceeds for its development/growth. Before we take a look at the steps in an IPO process, lets take a look at the entry norms for an IPO.

Entry Norms for an IPO:

Not all company’s can issue shares to the public. SEBI has provided a list of requirements that need to be met by a company if they wish to go public. A company that wishes to go public needs to meet all of the below mentioned criteria…

Entry Norms I or EN I:
1. Net Tangible assets of atleast Rs. 3 crores for 3 full years
2. Distributable profits in atleast 3 years
3. Net worth of atleast 1 crore in 3 years
4. If there was a change in name, atleast 50% of the revenue in the preceeding year should be from the new activity
5. The issue size should not exceed 5 times the pre-issue networth of the company

To provide sufficient flexibility and also to ensure that genuine companies do not suffer on account of rigidity of the above mentioned rules, SEBI has provided 2 alternate routes to company’s that do not satisfy the criteria for accessing the primary market. They are as follows:

Entry Norms II or EN II:

1. Issue shall be only through the book building route with atleast 50% allotted mandatorily to Qualified Institutional Buyers (QIBs)
2. The minimum post issue face value capital shall be Rs. 10 crores or there shall be a compulsory market-making for atleast 2 years


Entry Norms III or EN III:

1. The “Project” is appraised and participated to the extent of 15% by FI’s/Scheduled Commercial Banks of which atleast 10% comes from the appraiser(s).
2. The minimum post issue face value capital shall be Rs. 10 crores or there shall be a compulsory market-making for atleast 2 years
3. In addition to the above mentioned 2 points, the company shall also satisfy the criteria of having atleast 1000 prospective allotees in future.

Steps in an IPO Process:

Let us now have a look at how an initial public offering process is initiated and reaches its conclusion. The entire process is regulated by the 'Securities and Exchange Board of India (SEBI)', to prevent the possibility of a fraud and safeguard investor interest.

Selection of Investment Bank

The first thing that company management must do when they have taken a unanimous decision to go public is to find an investment bank or a conglomerate of investment banks that will act as underwriters on behalf of the company. Underwriter's buy the shares of the company and resell them to the general public. The company must also hire lawyers that can guide them through the legal maze that an IPO setup can be. It must be ready with detailed financial records for intensive fiscal health scrutiny that SEBI would perform. Some companies may also opt to directly sell their shares through the stock market, but most prefer going through the underwriters.

Step 1: Preparation of Registration Statement

To begin an IPO process, the company involved must submit a registration statement to the SEBI, which includes a detailed report of its fiscal health and business plans. SEBI scrutinizes this report and does its own background check of the company. It must also see that registration statement fulfils all the mandatory requirements and satisfies all rules and regulations.

Step 2: Getting the Prospectus Ready

While awaiting the approval, the company, with assistance from the underwriters, must create a preliminary 'Red Herring' prospectus. It includes detailed financial records, future plans and the specification of expected share price range. This prospectus is meant for prospective investors who would be interested in buying the stock. It also has a legal warning about the IPO pending SEBI approval.

Step 3: The Roadshow

Once the prospectus is ready, underwriters and company officials go on countrywide 'roadshows', visiting the major trade hubs and promote the company's IPO among select few private buyers (Usually corporates or HNIs). They are fed with detailed information regarding company's future plans and growth potential. They get a feel of investor response through these tours and try to woo big investors.

Step 4: SEBI Approval & Go Ahead

Once SEBI is satisfied with the registration statement, it declares the statement to be effective, giving a go ahead for the IPO to happen and a date to be fixed for the same. Sometimes it asks for amendments to be made before giving its approval. The prospectus cannot be given to the public without the amendments suggested by SEBI. The company needs to select a stock exchange where it intends to sell its shares and get listed.

Step 5: Deciding On Price Band & Share Number

After the SEBI approval, the company, with assistance from the underwriters decide on the final price band of the shares and also decide the number of shares to be sold.

There are two types of issues: Fixed Price and Book Building

Fixed Price – In a Fixed price issue – the company decides the price of the share issue and the number of shares being sold. Ex: ABC Ltd public issue of 10 lakh shares of face value Rs. 10/- each at a premium of Rs. 55/- each is available to the public thereby generating Rs. 6.5 Crores.

Book Building – A Book building issue helps the company discover the price of the issue. The company decides a price band and it gives the investor an option to choose the price at which he/she wishes to bid for the company shares. Ex: ABC Ltd issue of 10 lakh shares of face value Rs. 10/- each at a price band of Rs. 60 to 70 is available to the public thereby generating upto Rs. 7 Crores. Here the amount generated through the issue would depend on the highest amount bid by most investors.

Step 6: Available to Public for Purchase

On the dates mentioned in the prospectus, the shares are available to public. Investors can fill out the IPO form and specify the price at which they wish to make the purchase and submit the application. This open period usually lasts for 5 working days which is a SEBI requirement.

Step 7: Issue Price Determination & Share Allotment

Once the subscription period is over, members of the underwriting banks, share issuing company etc will meet and determine the price at which shares are to be allotted to the prospective investors. The price would be directly determined by the demand and the bid price quoted by investors. Once the price is finalized, shares are allotted to investors based on the bid amounts and the shares available.

Note: In case of oversubscribed issues, shares are not allotted to all applicants.

Step 8: Listing & Refund

The last step is the listing in the stock exchange. Investors to whom shares were allotted would get the shares credited to their DEMAT accounts and for the remaining the money would be refunded.

Difference between IPO in India and Abroad:

1. In India the book the book is built directly but in the west the underwriter takes the shares on his books and then allots shares to the investors
2. In India the book building process is transparent whereas in the US it is confidential
3. In India the book has to be open for a minimum of 5 business days and the period needs to be revised if the price band is revised whereas it can be opened and closed anytime abroad
4. Abroad, the price band is soft – meaning the bidder can bid for a price outside the price band too whereas in india the band is fixed.
5. Retail investors in india have to put in a cheque or block an equivalent amount corresponding to the IPO bid in their DEMAT accounts but QIB’s do not pay any margin. Whereas abroad, neither category needs to pay any margin.

Other Questions:

What will happen if the company does not receive a minimum subscription of atleast 90% of the net offer to the public including devolvement of underwriters within 60 days of issue closure?

The company will have to refund the entire subscription amount received within 8 days.

Can a company whose listing is due raise additional capital?


Should the Red Herring prospectus disclose the exact price of the issue?


What is the maximum price in a price band?

The cap price should not be more than 20% of the floor price. For Ex: if the floor price is Rs. 100/- the cap price can be at max Rs. 120/- an issue with price band Rs. 100 – 150 is not possible

Can the issue price be revised?

Yes, provided the revision on either side is not beyond 20%

What is the time limit an IPO may remain open?

An IPO cannot remain open for more than 7 working days which can be extended to upto 10 days in case the offer price band was revised

If your net worth is Rs. 10 crores, how much IPO can you go for?

50 – 10 = 40 crores.

You can go for upto 40 crores to ensure that your post issue net worth does not go beyond 5 times your pre issue worth.

Who should the investors approach in case of delay of refund order?



  1. You really did a great job on that! pretty nice site and unique content for people.ipo process

  2. Hi anand the company will enter in to stock market for first time through IPO's then how the company will satistify the guidelines put by SEBI?

  3. @ Anonymous

    A Company will enter the stock market only if it satisfies the guidelines put by SEBI. Subsequently SEBI will be monitoring the company closely and the company has to meet all guidelines laid by SEBI from time to time. No Exceptions here.

  4. nice anand.. the steps u have stated here is only for public issue right?... what about other methods of floating new issues?.. can u explain?

  5. @Aarthi

    I will try to write about the other methods... expect an article soon!!!

  6. its very useful tutorial for finance background students ... really superb tutorial with clear explanation ....

  7. Very very simply explained. Great job!

  8. Thanks for this blog. It was useful to me.


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