An initial public offering or IPO is the process by which a company goes from being a private company to one who’s shares are traded on a public market.
It’s a complicated process, and even though an IPO means shares being made public, they’re not always immediately available to all investors.
Why does a company want to publicly list its shares?
When a company is private, it generally has a few owners or investors and its shares can’t be traded publicly. The benefits of this include being able to focus solely on the business and much less arduous disclosure requirements. However, it also means that any fresh injections of cash needed to help propel the business forward needs to come from the few owners or investors and that can be limiting.
An IPO allows the company to raise fresh funds from a much larger pool of investors that can be put towards paying down debt or growing the business. It can also allow the current owners and investors to cash in some of their holdings.
Once a company has shares that are publicly traded, it can then use them as employee incentives that can be helpful in attracting top talent, and can also use them as part of any merger or acquisition it does. Getting into a major stock index can also be a major attraction of a listing.
The newly listed company has to be ready for life as a public company: disclosure requirements are a lot bigger and the regulatory regime is a lot tougher. The company is also now more beholden to its shareholders, who will demand good returns on their investment.
What happens when a company decides it wants to list?
An IPO is a major process, and usually takes several months. The first thing a company will do is hire an investment bank, or a group of investment banks, who will handle the IPO. Bigger IPOs will always have a large group of banks handling the IPO, with one or two of them taking a lead on the process.
The banks will normally pitch to the company to get the business.
The advantage of having a group of banks doing the so-called underwriting, is that the risk and sources of funding are spread more widely.
Once the banks are appointed, there will be talks about what securities should be listed, where, how much the company wants to raise, and all the other details of the underwriting agreement. For a very big IPO, stock exchanges may bid to get the listing on their exchange. Once a decision is made on where the company would like to list, talks will be open with the relevant country regulators who oversee the stock markets and listings and applications are made to the chosen stock market and listing authorities.
News of the IPO is made public
At some point the company will announce publicly that it is intending to float, a requirement under UK listing rules that are overseen by the Financial Conduct Authority. In the US, a registration statement is put together and filed with the Securities and Exchange Commission.
If floating in London, a company will normally issue an ‘Intention to Float’ announcement through one of the regulatory news services. This will then get reported in the press.
Normally, the intention to float announcement will say when the IPO is likely to take place, how many shares may be on offer and whether the shares will be just offered to institutional shareholders or whether some may be made available to intermediaries who can then sell them to retail investors.
The IPO prospectus and the road show
Once the IPO and the proposed timetable have been agreed by the regulator, the company and its banks will put together a prospectus, giving much greater detail about the planned offering, the potential risks and all the required financial information about the company that’s listing. This is made available to potential investors.
The banks underwriting the IPO will take the prospectus and and talk with potential investors and drum up interest in the offering. This so-called ‘road show’ will give the banks a better idea of the price at which the shares should be listed. They can work out what demand there would be for shares at what price.
Sometimes, a price range for the IPO is announced, which can help the banks in their discussions with potential investors.
There will then be an offer period of two weeks, usually, and application for the shares available in the offering can begin. When the period closes, the final pricing is announced, applications are finalised and if the IPO is oversubscribed then share awards are scaled.
What are conditional dealings?
There is normally a period of a few days between the offer closing and the shares being listed on the stock markets, and some trading does take place in this period although it’s normally confined to large institutional investors.
These transactions are subject to deferred settlement, meaning they’re not actually settled until the listing takes place an unconditional dealings begin. If the full listing doesn’t happen for any reason, then conditional trades are null and void.
Spread betting firms may offer a market on a company’s anticipated value during the build up to an IPO, a so-called grey market.
Why do some IPOs get pulled?
The most likely reason for an initial public offering getting postponed or cancelled is market volatility. If something makes equity prices drop quickly, then the company may not be able to raise as much as it needs though the IPO or it may cause investor interest in new listings to dry up.
There are other reasons of course. Sometimes, news of an IPO can flush out takeover interest for the company trying to list, and the owners may decide to sell the company rather than going it alone with a listing.