What is the IPO Cycle – Meaning, Processes and Different Stages
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What is the IPO Cycle – Meaning, Processes and Different Stages

The process of going through an IPO is key for any private companies looking to raise funds and get listed on the stock markets. The IPO process is sometimes referred to as the IPO cycle. However, the IPO cycle is very complex and includes many processes that involve different regulations, financial disclosures, and compliance. Understanding the IPO cycle is a necessity not only for companies but also for potential investors when making investment decisions. 

This blog provides an extensive overview of the IPO cycle, its stages, advantages, and potential drawbacks.

What is an IPO?

IPO, short for Initial Public Offering, refers to the process by which a private company issues or offers shares to the public and consequently becomes an entity listed on the stock exchange. The main reasons why companies go public include raising more capital that can be used for expansion, debt repayment, research, and development. By launching an IPO, a firm offers the general public an opportunity to become shareholders and become part of the future growth of the company in exchange for their investment. On the other hand, an IPO also gives early investors the chance to get their investments back.

The process of an initial public offering consists of many sub-processes with clearly defined responsibilities of the company, underwriters, regulators, and stock exchanges. The company seeking to launch an IPO must disclose its financials, business operations, and risks in the form of a prospectus, which is reviewed and approved by regulatory authorities, ensuring compliance with applicable standards. This public disclosure would offer potential investors insights into a company’s operations, thus ensuring that they make informed investment decisions.

What is the IPO cycle?

The IPO cycle consists of all the stages ranging from when the firm first considers going public to getting listed on a stock exchange. Stages of the cycle include preparation of prospectus, regulatory filing, pricing, and listing. All of these stages are very important and must be undertaken in compliance with the regulatory standards.

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A well-structured IPO cycle ensures that it meets regulatory requirements and provides transparent disclosures to those investors who want to invest in it, establishing credibility and market value for the company before its shares hit the stock markets.

Different Stages of IPO Cycle

The IPO cycle consists of various stages, and all these stages are essential for a successful IPO. Let’s understand each stage in detail.

Pre-IPO Stage or Preparation

  • Financial Data: The company assesses its financials to ensure that it meets all the accounting standards and is in good financial health to pass the regulatory tests. In this stage, auditor appointments and amendments in financial practices for transparency have been observed.
  • Restructuring: The company may restructure its business model by reducing debt, settling legal disputes, focusing on productive segments, or starting new ventures that would increase its attractiveness to investors before IPO.
  • Hiring of Underwriters: Underwriters can be investment banking companies. Underwriters are hired by the companies to look after the processes of an IPO. They take responsibility for determining company value, setting the IPO price, and getting investors to participate in the IPO.

Regulatory Filing and Review: Draft Red Herring Prospectus or DRHP

  • Preparation of DRHP: The company prepares, in consultation with underwriters and legal counsel, a draft red herring prospectus or DRHP. A DRHP is a document consisting of information about the business, financial information, management, risks, and other important information.

The DRHP document is submitted to the regulatory authority for approval. The regulator ensures that the information in the document complies with all the relevant regulations. In India, once the DRHP is approved by SEBI, it is finalized into the Red Herring Prospectus (RHP). RHP serves as an important document for investors when making decisions about whether to invest in an IPO or not. 

Roadshow and Marketing

  • Roadshow Events: A roadshow is a series of presentations and meetings during which company representatives and underwriters pitch the opportunity to invest in the IPO to potential investors. This stage is important in building investor interest and garnering feedback.
  • Building Interest: This stage helps the company determine investor sentiment and adjust its IPO strategy if needed. Investor demand can significantly affect the IPO price and the number of shares to be issued.
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Pricing and Allocation

  • Determination of IPO Price: After the roadshow, the company and the underwriters determine a price for the shares issued in an IPO. The price is determined by the investor demand, market sentiment, and future growth potential of the company. Determining the optimal IPO price is, therefore, crucial because it affects the capital-raising activities of a company.
  • Allocation of the Shares: There are different categories of investors, each with a reserved quota in the IPO. If the IPO is not fully subscribed, each investor gets the number of shares one has applied for. On the other hand, if the IPO is oversubscribed, investors are allocated shares by lottery method. However, the minimum shares allotted and lock-in period vary across different investor categories.

Listing on the Stock Exchange

  • Going Public: On the scheduled listing day, shares issued by the company are listed on the stock exchange, and the trading commences. Investors who didn’t get an allotment can buy shares or sell their allotted shares on this day, which can cause price fluctuations.
  • Post-IPO Stabilization: The lock-in period for anchor investors ensures the stock price gets some stability during the initial post-listing phase.

Benefits of an IPO to a Company

The benefits of launching an IPO for a company are:

  • Capital Raising: Companies, through an IPO, raise significant amounts of capital to expand the business, settle debts, or conduct research and development.
  • Public Profile and Credibility Increases: The IPO enhances the company’s profile and credibility, which helps attract talent, build customer trust, and create partnerships.
  • Liquidity to Early Investors: The IPO enables early investors to sell their shares in the open market. 
  • Expansion: Companies can acquire other businesses by using the funds raised from IPO and hence expand their market share.

Drawbacks of Going Through an IPO Cycle

The various disadvantages of going through an IPO cycle are:

  • Significant Costs: The process of launching an IPO is very expensive as it costs money to hire underwriters and legal consultants.
  • Regulatory Compliance/Restrictions: Public companies are required to follow strict regulations and report financials at regular intervals, which requires a dedicated accounting and compliance team, thus increasing operational costs.
  • Short-term Focus: Shareholders seek continual quarterly performance, thus creating short-term pressures and it may inhibit the long-term objectives of the company.
  • Loss of Control: Owners may lose some control over the decisions of the firm due to the influence of other shareholders.
  • Market Volatility: Stock prices can experience market fluctuations, which impacts the company’s market capitalization and investor sentiment.
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Conclusion

The IPO cycle is a complex but very rewarding process by which companies raise money from the general public and get listed on the stock exchange. However, the process is cumbersome and involves many sub-processes, ranging from the decision to launch an IPO to seeing its share trading on the stock exchange. It can take anywhere between 3 months to 12 months to get through the IPO cycle, based on company preparedness, regulatory processes, and market conditions. Companies should thoroughly compare the benefits and challenges involved in the IPO cycle before going through the IPO cycle.

Frequently Asked Questions (FAQs)

  1. What is an IPO cycle?

    The IPO cycle is the step-by-step procedure a private company has to adopt to become a publicly listed company. The IPO cycle involves the preparation of documents, regulatory filing, pricing and listing.

  2. Why do companies go through the IPO cycle?

    Companies opt for an IPO to raise funds, gain more visibility and ensure liquidity for their early investors. The funds can support future growth and expansion in the days to come.

  3. Is a Demat account required to invest in IPOs?

    Investors need to have a Demat account to invest in an IPO, as it will store the shares allotted to the investors.

  4. What are the main phases of the IPO cycle?

    The primary phases of an IPO cycle include pre-IPO preparation, regulatory filing, road show, pricing, and listing on the stock exchange.

  5. Are there any disadvantages of going through an IPO cycle?

    Launching an IPO can be expensive due to the costs involved in hiring underwriters, preparing marketing materials, and meeting higher regulatory requirements.

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