Primary Markets (IPO) – Basics

by Gopal Gidwani on October 19, 2010 · 9 comments

in Others,Stock Markets Guide,Uncategorized

Introduction
Career Point Infosystems Limited almost doubles on listing!!! Coal India IPO to hit the markets with a plan to raise as much as $3 billion!!!! Is this the kind of news that makes you wonder what this is all about??? Then look no further. This article throws some light on the concept of Initial Public Offerings (IPO). Naresh is a MBA working in a MNC with little or no knowledge of stock markets but has surplus funds ready for investment. Like many other people he is fascinated by the spectacular gains offered by some of the new companies on the very first day of listing. He would like to invest in an IPO but he does not know how to go about it. So let’s get started.

What is a Primary Market?
Whenever a Company wants to raise funds for expansion or other corporate purposes or when the promoters decide to offer shares of the company to the public they decide to list the company on the stock exchange. The company approaches the stock market regulator Securities Exchange Board India (SEBI) with its intent to list on the stock exchange. The company has to file all the financials and other details with SEBI in a specified format which is known as Draft Red Herring Prospectus (DRHP).
The Company may issue shares at Par Value or at a Discount or at a Premium.
At Par Value: For example if the Face Value of the shares is Rs 10 and the shares are issued to the public at Rs 10 then it is said that the company is issuing shares to the public at Par Value.
Premium: If the Face Value of the shares is Rs 10 and the shares are issued to the public at a price above Rs 10 say at Rs 70 then it is said that the company is issuing shares to the public at a Premium of Rs 60 over the Face Value of Rs 10.
Discount: If the Face Value of the shares is Rs 10 and the shares are issued to the public at a price below Rs 10 then it is said that the company is issuing shares to the public at a Discount to the Face Value. Most of the companies issue their shares to the public at a Premium to the Face Value.
The primary purpose behind issuing securities (shares) in this manner is to raise Capital for the Company for expansion, working capital, paying debt, acquisitions or for any other corporate purpose.

What are the different kinds of Public Issues?

  1. Initial Public Offering (IPO): When an unlisted Company offers its securities (shares) to the public for the first time it is termed as IPO.
  2. Follow On Public Offering (FPO): When a listed Company makes subsequent offer of securities (shares) after the 1st issue, to the public it is termed as FPO.
  3. Rights Issue: In a rights issue a listed company decides to issue shares only to existing shareholders (as on a record date). In a rights issue the shares are allotted in a ratio related to the existing number of shares already held by the existing shareholders.
  4. Preferential Issue: An issue of shares made to specific designated buyers is known as a Preferential Allotment. Preferential Allotment can be made to Promoters or other set of investors.

 
Merchant Bankers
The company coming out with an IPO generally seeks the advice of a Merchant Bank (Book Managers). The Merchant Bankers help in determining the type of security to issue, the price at which the securities will be offered, the best time to hit the market, marketing of the issue, collecting the money, the allotment of shares and the refund of excess money collected. In return for this service the Merchant Banker charges a fee. The price of the IPO may be determined by the Company Management in consultation with the Merchant Bankers or arrived at through the process of Book Building. In an IPO offering a certain percentage of shares are reserved for each category of investors like Qualified Institutional Bidders (QIBs), Foreign Institutional Investors (FIIs), High Networth Investors (HNIs), Mutual Funds, Retail Investors and Employees of the Company. People applying for an IPO could be divided into two categories:
Short Term Investors: These investors are the ones looking for Listing Gains and sell the shares of the company in the initial few days after listing.
Long Term Investors: These investors are the ones who invest for the long term keeping in mind the long term fundamentals and financials of the company for capital appreciation over the long term.

How to select an IPO?
The following points could serve as guidelines to pick up an IPO for investment:

  1. Start with analyzing the background of the Company/Promoters, their past track records, core competencies and credibility.
  2. The Company financials also help you decide on various factors such as past sales growth, profit growth, profit margins, Order Book status and comparison with similar companies in the same business.
  3. Also read the prospectus (DRHP) for any risks that might be involved.
  4. Make sure the Issue Price is good enough (reasonable) for investing. This can be determined by studying the Price Earning (P/E) multiples and future growth prospects of the company.

 
How to Apply for an IPO?

  1. To apply for an IPO one needs to fill out an Application Form readily available outside Stock Exchanges, Stock Brokers, Banks etc.
  2. You need to fill the form specifying the no of shares applied for, the price to be paid, the demat account number and other details. The applicant needs to make the necessary funds available to the Bank designated as IPO’s collection center. Alternatively you can also apply online through the broker’s website.
  3. ASBA (Application Supported by Blocked Amounts) is the new investor friendly way of applying for IPO’s which ensures that investor’s funds leave his bank account only upon allocation of shares in the IPO. The ASBA process also ensures that only the requisite amounts of funds are debited to the investor’s bank account on allotment of shares. In this mechanism, the need for refunds is completely obviated.

 
What after you apply for an IPO?

  1. After you closure of the book building process the company, merchant bankers and the registrars decide the allotment of shares.
  2. Depending upon how many times the IPO is oversubscribed you get a proportional allotment of shares in your Demat Account on a prorate basis. The higher the oversubscription the lesser the allotment.
  3. In case you get less allotment than applied for you get a refund of the remaining money in round about a week’s time from the allotment process of the Issue.

 
Conclusion
So through this article we have learnt about the Primary Markets and IPO’s and ways of investing in them. Hopefully people like Naresh can now look at the Primary markets as a good investment option. Please do let us know your views and comments. In the next article we will be exploring the Secondary Markets where Majority of the Action takes place. Till then Happy Investing!!! 

This article has been contributed by Devesh Salunke. Please let us know your comments on the article by commenting in the section below or writing to us at gopal_gidwani@yahoo.com

{ 9 comments… read them below or add one }

Marshal October 21, 2010 at 11:06 am

Very nice post gopal!

i have one question, i have applied coal ipo via online sbi net banking and while doing it i have entered my DP ID: INxxxxx-xxxxxx. This DP ID i have taken from my icicidirect account.

So question is, if am allocated shares, then it will appear in icicidirect account automatically. Or do i need to do something?

thanks in advance for replying
Cheers
Marshal

Reply

Gopal Gidwani October 22, 2010 at 1:12 pm

Hello Marshal,
While making Appplication for an IPO through a Bank (ASBA Process), in the ASBA physical form there is a column to mention the name of the DP name (IndiaBulls Securities Limited in my case) along with the DP ID and the 10 digit Beneficiary Account Number. So I enter all the 3 everytime I make a ASBA application and on allotment the shares automatically reflect in my IndiaBulls Trading Account.

In your case I am not sure while making the online application whether along with the DP ID, you entered the DP name or not. If you have entered all the 3 details then the shares will automatically reflect in you ICICIDirect Trading Account as it happens in my case.
But if you have not entered the DP name then I am not sure whether on allotment the shares will reflect in your ICICIDirect Trading Account or not. The shares will definitely be credited to your Demat Account (Beneficiary Account). But whether it will reflect in your ICICIDirect Trading Account account or not, I am not sure of that because I have not faced that situation. But I will find out about it and let you know about it.
Even if the shares dont reflect in your ICICIDirect Trading Account, you can surely sell the shares through that trading account. But there is a process to be followed for that which I will find out and let you know.
Best Regards
Gopal Gidwani

Reply

Marshal October 22, 2010 at 5:10 pm

many thanks for explanation.
well in onlinesbi account i entered DP ID, client ID and PAN number.
there was no such field for Beneficiary Account Number account number.. so not sure how it will reflect in my icicidirect account.
lets wait and watch.

Reply

Gopal Gidwani October 22, 2010 at 6:53 pm

Hello Mr. Marshal,
I did search on the internet regarding your query. I found out that the DP ID IN-XXXXXX is unique to each Depository Participant. So in my case whenever I apply for any IPO, I enter the DP ID IN-302236 which is unique to IndiaBulls Securities Limited (ISL). So on allotment, shares automatically reflect in my IndiaBulls Securities Trading Account which is traced through the unique DP ID IN-302236.
In your case your trading account is with ICICI Direct. So in your case you must have entered the DP ID IN-302679 which is unique to ICICI Direct. So through the DP ID the CIL shares allotted to you will be sent to ICICI Direct. And ICICI Direct will credit them to your account.
Also the 8 Digit Client ID that you entered is your Demat Account Number or the Beneficiary Account Number.
I hope I have answered your query. In case of any further doubts please do write back.
Best Regards
Gopal Gidwani

Reply

Marshal October 23, 2010 at 5:08 am

many many thanks gopal, really appreciate your efforts in resolving my query!

tony kurian January 14, 2011 at 12:07 am

this is perhaps a good one one for starters in the markets. tons thanks to you Gopal

Reply

Gopal Gidwani February 7, 2011 at 2:57 pm

Hi Tony, thanks a lot for your kind words ………. 🙂

Reply

Spani July 12, 2016 at 6:56 pm

I have applied for IPO through ICICI Demat account in the first day of bidding itself. I didnt receive any shares allocated to me. Is it possible? Are there any chances banks will interfere while allocating IPO share?

Thanks

Reply

Gopal Gidwani July 14, 2016 at 9:29 am

The bank does not interfere while allocating IPO shares. It does not matter whether you apply on the first day or last day. The shares are allotted on a proportionate basis. If the oversubsciption is very high and if 1 lot cannot be given to everyone, then the allotment of 1 lot is made on lottery basis.

Reply

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