Unit-3

Primary Market
Meaning of Primary Market
The primary market is where securities are created so they can be sold to investors for the first
time. Above all, the primary market issues new securities on an exchange to allow companies,
governments and others to raise capital.
 Funds collected for?
 Newly established businesses
 Existing businesses
 Funds are used for?
 Setting up a new business unit
 Expanding the business
 Modernizing the plant, machinery, etc.
 Features of primary market:
 It is a market for creation of long-term capital
 Fresh issue of securities takes place in the primary market, wherein the buyers are
retail and institutional investors

Types of flotations
 Public Issue
A public issue, a key aspect of the primary market, refers to the process of offering new securities,
such as shares or bonds, to the general public for subscription and purchase.
Companies utilise public issues, like Initial Public Offerings (IPOs), to raise capital and list on
stock exchanges. These offerings provide individuals with the opportunity to become shareholders
or bondholders, contributing to a company’s growth while potentially reaping financial benefits.
Public issues enable companies to access fresh funds for expansion, research, and operations,
enhancing market visibility and investor participation in shaping a company’s future trajectory
 Private Placement
 Private placement involves the sale of securities, like shares or bonds, to a select group of
investors, excluding the general public. This method allows companies to raise capital directly
from institutional investors or high-net-worth individuals.
 Unlike public offerings, private placements have fewer regulatory requirements and offer
flexibility in structuring deals. Companies often choose private placement for efficiency and
 confidentiality. However, it limits market liquidity and may lack the transparency associated
with public markets. Private placements are commonly used by companies in the early stages.
 Qualified Institutional Placement
Qualified Institutional Placement (QIP) is a capital-raising tool enabling listed companies to issue
shares to Qualified Institutional Buyers (QIB), such as mutual funds, public financial institutions,
insurers, foreign venture capital investors, etc. QIPs offer an expedited route to raise funds while
maintaining regulatory compliance.
 Preferential Issue
A preferential issue is a capital-raising mechanism where a company offers new shares to a select
group of investors, typically existing shareholders or strategic investors. This method enables
companies to swiftly raise funds while providing preference to specific stakeholders. Preferential
issues often align with expansion plans, debt reduction, or strategic partnerships. While efficient
in securing capital, it can lead to dilution of equity.
 Rights Issue
A rights issue is when a company offers its existing shareholders the opportunity to buy additional
shares at a discounted price, proportionate to their current holdings. This helps raise capital from
within the shareholder base, often for expansion or debt reduction.
 Bonus Issue
A bonus issue involves issuing free additional shares to existing shareholders, based on their
current holdings. It enhances shareholder value without affecting ownership proportions.
Companies often opt for bonus issues to reward shareholders and increase market liquidity.

Functions of Primary Market

The purposes of such a market are several: –
 New issue offer
A primary market allows for the offering of new issues that have not previously been traded on
other exchanges. Organising a fresh issue market involves, among other things, a thorough
evaluation of the project’s feasibility. As a result, a fresh issue market is also called a “new issue
market.” Financial arrangements are made specifically for the purpose and take into account
promoters’ equity, liquidity ratio, debt-equity ratio, and foreign exchange demand.
 Services for underwriting
Underwriting is crucial when launching a new issue. Underwriters are responsible for acquiring
unsold shares in a primary market if the company cannot sell the required number of shares.
Financial institutions can earn underwriting commissions by acting as underwriters. In order to
determine whether taking the risk and reaping the rewards is worth it, investors rely on
underwriters. IPOs can be purchased by underwriters who sell them to investors.
  New issue distribution
New issues are also distributed in a key marketing arena. These distributions begin with the
issuance of a new prospectus. In it, the general public is invited to purchase a new issue, and
detailed information about the issue, underwriters, and the firm is provided.

Advantages of Primary Market

 Companies can raise capital at a relatively low cost, and the securities so issued in the
primary market have high liquidity because they can be sold in the secondary market
almost immediately.
 Primary markets are important for the mobilisation of savings in an economy. Communal
savings are mobilised to invest in other channels. Investment options are financed by this.
 Compared to the secondary market, the primary market has considerably fewer chances of
price manipulation. Manipulations such as these affect the fair and free operation of the
market by deflating or inflating a security’s price.

Disadvantages of Primary Market

 As unlisted companies do not fall under the Securities and Exchange Board of India’s
regulatory and disclosure requirements, investors may have limited access to information
before investing in an IPO.
 There are varying degrees of risk with each stock, but IPO shares have no historical trading
data in a primary market for analysis since the company is offering its shares for the first
time through an IPO.
 Small investors may not always benefit from it. Small investors might not receive
allocations if a share is oversubscribed.

Key Market Players

The following are the players in primary market:
 Issuers: These are the entities that issue securities to raise capital. They can be private
companies going public, government organizations, or existing publicly traded companies
issuing additional shares or bonds.
 Underwriters: Financial institutions, such as investment banks, that act as intermediaries
between issuers and investors. Underwriters assist in the process of pricing, marketing, and
distributing securities, and they often guarantee a certain amount of proceeds to the issuer.
 Investors: Entities that purchase the newly issued securities. These can be institutional
investors like pension funds, mutual funds, or insurance companies, as well as individual
investors.
 Regulators: Government bodies that are responsible for overseeing and regulating the
primary market to ensure transparency, disclosure, and investor protection. In the United
 States, the Securities and Exchange Commission (SEC) is the primary regulator of
securities markets.

Importance of Primary Market

By investing in the New Issue market, investors gain access to new investment opportunities and
earn higher returns. The primary market has a crucial role in financial ecosystem and contributes
to economic growth and development in several ways. The following key reasons make primary
market important:
 Capital formation: The primary market provides a platform for companies, governments,
and other entities to raise capital through the issuance of securities such as stocks, bonds,
and debentures. This capital can be used to fund business expansion, public infrastructure
projects, or repay debts, promoting growth and development across various sectors of the
economy.
 Investment opportunities: By offering newly issued securities to investors, the primary
market provides opportunities for individuals and institutional investors to participate in
the growth and success of various organizations. This helps investors diversify their
investment portfolios and generate returns through capital appreciation and income
from dividends or interest payments.
 Resource allocation: The primary market facilitates the transfer of funds from investors
to productive sectors of the economy. By channeling capital to companies and projects with
growth potential, the primary market contributes to the efficient allocation of resources and
supports overall economic growth.
 Price discovery: The process of issuing securities in the primary market involves
determining the fair market value of securities which is essential for price discovery. The
interaction between issuers, underwriters, and investors in the primary market helps
establish an appropriate price for the securities, reflecting their perceived value and
demand.

Securities Issued in New Issue Market

In this market, various types of securities are issued by companies, governments, and other entities
to raise capital from investors. Some common securities issued in this market include:
 Stocks: “Shares’ or ‘equities’ represent ownership interests in a company. When a
company issues stocks in the market, it is typically done through an initial public offering
(IPO), where new shares are sold to investors for the first time. The proceeds from the sale
of stocks are used by the company to fund business expansion, repay debts, or for other
purposes.
 Bonds: These are types of debt securities issued by companies, governments, or any
entities that pay periodic interest to bondholders and return the principal amount upon
maturity. In the New Issue market, bonds can be issued through public offerings or private
 placements. Governments often issue bonds to fund public infrastructure projects or cover
budget deficits, while companies issue bonds (corporate bonds) to finance their operations
or for investing.
 Debentures: Debentures are similar to bonds but are unsecured since they are not backed
by any collateral. In the primary market, debentures are issued by companies to raise funds
for business purposes. The interest rates on debentures are usually higher than those on
bonds, reflecting the higher risk associated with unsecured debt.
 Convertible securities: Convertible securities, such as convertible bonds or convertible
preferred stocks, are hybrid securities that can be converted into predetermined number of
common shares at a specified time or under specific conditions. Companies issue
convertible securities in the primary market to raise capital while offering investors the
potential for capital appreciation through conversion into common shares.
 Preferred stocks: Preferred stocks are a type of equity security that provides investors
with a fixed dividend payment and priority over the common shareholders during
liquidation. Companies issue preferred stocks in the primary market to raise funds while
maintaining a lower level of dilution to existing shareholders compared to issuing common
stocks.
 Commercial papers: Commercial papers are short-term, unsecured debt securities issued
by companies to meet short-term funding needs. In the primary market, commercial papers
are typically sold at discount and are redeemed at face value upon maturity, with maturities
usually ranging from a few days to 270 days.
 Municipal securities: Municipal securities are the debt securities issued by state or local
governments to fund public projects, such as building schools, hospitals, or infrastructure.
In the primary market, municipal securities are sold to investors, who in turn receive
interest payments that are exempt from federal and, in some cases, state and local taxes.

Problems faced by the Indian primary market are as follows:

 Inadequate disclosure of information
 Price manipulation
 Insider trading
 Lack of transparency
 Oversubscription of shares
 Problems related to the settlement mechanism
 Takeovers and mergers
 Investor grievance