Initial Public Offering (IPO)

 

An initial public offering (IPO) or stock market launch is the first sale of stock by a company to the public. It can be used by either small or large companies to raise expansion capital and become publicly traded enterprises. Many companies that undertake an IPO also request the assistance of an investment banking firm acting in the capacity of an underwriter to help them correctly assess the value of their shares.

Ownership of shares is documented by issuance of a stock certificate. A stock certificate is a legal document that specifies the amount of shares owned by the shareholder, and other specifics of the shares, such as the par value, if any, or the class of the shares.

Reasons for listing
When a company lists its securities on a public exchange, the money paid by investors for the newly issued shares goes directly to the company (in contrast to a later trade of shares on the exchange, where the money passes between investors). An IPO, therefore, allows a company to tap a wide pool of investors to provide itself with capital for future growth, repayment of debt or working capital. A company selling common shares is never required to repay the capital to investors.

Once a company is listed, it is able to issue additional common shares via a secondary offering, thereby again providing itself with capital for expansion without incurring any debt. This ability to quickly raise large amounts of capital from the market is a key reason many companies seek to go public.

There are several benefits to being a public company, namely:
• Bolstering and diversifying equity base
• Enabling cheaper access to capital
• Exposure, prestige and public image
• Attracting and retaining better management and employees through liquid equity participation
• Facilitating acquisitions
• Creating multiple financing opportunities: equity, convertible debt, cheaper bank loans, etc.

Disadvantages of an IPO
There are several disadvantages to completing an initial public offering, namely:
• Significant legal, accounting and marketing costs
• Ongoing requirement to disclose financial and business information
• Meaningful time, effort and attention required of senior management
• Risk that required funding will not be raised
• Public dissemination of information which may be useful to competitors, suppliers and customers.

Procedure
IPOs generally involve one or more investment banks known as "underwriters". The company offering its shares, called the "issuer", enters a contract with a lead underwriter to sell its shares to the public. The underwriter then approaches investors with offers to sell these shares.

A large IPO is usually underwritten by a "syndicate" of investment banks led by one or more major investment banks (lead underwriter). Upon selling the shares, the underwriters keep a commission based on a percentage of the value of the shares sold (called the gross spread). Usually, the lead underwriters, i.e. the underwriters selling the largest proportions of the IPO.

Multinational IPOs may have many syndicates to deal with differing legal requirements in both the issuer's domestic market and other regions. May be represented by the main selling syndicate in its domestic market. Usually, the lead underwriter in the main selling group is also the lead bank in the other selling groups.

Because of the wide array of legal requirements and because it is an expensive process, IPOs typically involve one or more law firms with major practices in securities law.

Public offerings are sold to both institutional investors and retail clients of underwriters. A licensed securities salesperson selling shares of a public offering to his clients is paid a commission from their dealer rather than their client. In cases where the salesperson is the client's advisor it is notable that the financial incentives of the advisor and client are not aligned.