HOW CORPORATIONS

ISSUE SECURITIES?
RT
Why corporations issue securities?
Why companies go for an IPO?
 There are several advantages of a company choosing
to change its status from a privately-held to a public-
listed company:-
 To raise funds from a wider pool of investors
 Gain visibility
 Provide an exit for early investors
 Trading in the open markets means liquidity.
 Being Public makes it possible to implement things like employee
stock ownership plans, which help to attract top talent of the industry.
What are the alternatives to an IPO?
 A company can choose to remain private and raise
funds from angel investors and venture capitalists
through private placement.
Are all companies eligible for an
IPO?
Eligibility criteria
 For listing on the National Stock Exchange (NSE)
or the Bombay Stock Exchange (BSE), a company
has to have a minimum paid-up capital of Rs 10
crores. Also, the post-issue market capitalisation
should not be less than Rs 25 crores.
 Among other requirements, there has to be at least
three years track record of either - applicant
seeking listing; or the promoters/promoting
company.
Process of filing for an IPO?
 Appoint a merchant banker
 A merchant banker, or  Book Running Lead Manager
(BRLM) underwrites the company’s shares, buying all
or some of the IPO shares and selling them to the
public.
 A merchant banker helps the company with the IPO
process, assisting with the due diligence, DRHP and
IPO road-show.
 The underwriters bear the risk of the transaction.
 Do Underwriters Make Guarantees to Sell an Entire IPO Issue?
 Underwriters do not necessarily make guarantees concerning selling
an initial public offering (IPO). However, it depends on the type of
underwriting that is agreed upon with the stock's issuer.
 The two most common types of underwriting are bought deals and
best effort deals.
 In a bought deal, the underwriter purchases a company's entire IPO
issue and resells it to the investing public.
 In a best effort deal, the underwriter does not necessarily purchase
any of the IPO issue, and only makes a guarantee to the company
issuing the stock that it will use its "best efforts" to sell the issue to
the investing public at the best price possible.
 File for the IPO and get SEBI nod
 In India, companies have to file for an IPO with
SEBI. The application needs to include the documents
listed for the IPO Vetting Process, which includes the
DRHP, details of the promoters and the company's
annual reports.
 The initial listing fees is Rs 50,000 and the subsequent
annual listing fees will depend on the paid-up share
capital of the company.
 Prepare the DRHP
 A formal legal document describing the details of the
company is created for a proposed IPO,
 Also making the investors aware of the risks of an
investment,
 High and low price of the shares of the company for
last two years,
 Disclosing net assets value of the company,
 Statement by lead managers that the underwriters have
adequate assets to meet the their obligation.
 Market the IPO:
 This is typically done through advertisements to raise
awareness about the company's offering. The process
is also called the IPO road-show.
 Fixing the price band and book building:
 Once the price band has been decided, the merchant
banker or underwriter of the share offer decides the
IPO price.
 For three days, the company's shares are open to the
public for subscription.
 Listing Day:
 The company begins trading on the stock exchange at
a listed price, which is based on market demand for the
issue.
Terms associated with IPOs
 Primary market: 
 It is the market in which investors have the first
opportunity to buy a newly issued security as in an
IPO.
 Book building: 
 It is the process by which an attempt is made to
determine the price at which the securities are to be
offered based on the demand from investors.
 Price Band and Fixed Price IPO: 
 A price band is the range of the price at which the stock can
be issued for the first time.
 Some companies decide to fix the issue price for their initial
share sale, making it a fixed price IPO.
 Draft Red Herring Prospectus (DRHP):
 This is the document that gets circulated to the public after
SEBI gives an IPO the green signal.
 The document contains details of the initial share offer and
crucial details about the company such as financial
information and risks associated with the business.
 Undersubscription:
 An IPO is undersubscribed if the bids received are less
than the number of shares offered.
 Oversubscription:
 Oversubscription happens when the bids exceed the
number of shares on offer.
 Green Shoe Option:
 This is an option for over-allotment, included in the
underwriting agreement. This allows the issuer to
release additional shares in the event of
oversubscription.
 Cut Off Price: 
 The price of allotment of an IPO determined by the
company after the book building process is called Cut
Off Price.
 Cut Off Date & Time: 
 All IPOs are open for subscription for a few days
(generally 3-5 days) only & on the last day there is the
last time permitted for you to make application.
 Lot Size:
 Unlike stocks (secondary market), you can’t buy IPOs
in any numbers or quantity you wish for. There is a
fixed quantity , which you can apply for of in multiple
of that quantity can be applied. This quantity is known
as lot size.
 Investor Category: 
 For applying in IPOs, investors are classified in 3
categories:-
 RetailInvestor
 Non-institutional / High Networth Individuals (HNIs) &
 Qualified Institutional Bidders (QIBs).

As a Retail investor, you are permitted to apply for IPOs

totaling a value of maximum upto 2 lacs only.
 Flipping: 
 Flipping is reselling a hot IPO stock in the first few days to
earn a quick profit.
 Spread
 Difference between public-offer price and price paid
by underwriter
 Underpricing
 Issuing securities at price set below true value of
security
FIGURE 2.1 Indian Venture Capital
Investments ($ Billions)

Source: Turning the Corner, Global Venture Capital Insights and

Trends, 2013, Ernst & Young.
Table 2.2 Top Managing Underwriters, 2011
Figure 2.3 Motives for IPO
Figure 2.4 Average Initial IPO Returns

Return, percent
Figure 2.5 IPO Proceeds and First-day Returns
Table 2.6 Underwriting Spreads
Cost of New Issues
Items
Spread or Underwriting discount
Other direct expenses
Indirect expenses
Abnormal return
Underpricing
Green shoe option
Descriptions
The spread is the difference between the price the issue
receives and the price offered to the public.
These are costs incurred by the issuer that are not part of
the compensation to underwriters. They include filing fees,
legal fees and taxes.
These costs are not reported in the prospectus and include
management time on the issue.
In a seasoned issue of stock, the price drops by 3% to 4%
upon the announcement of the issue.
For IPOs, the stock typically rises substantially after the
issue date. This is a cost to the firm because the stock is
sold for less than its efficient price in the aftermarket.
The green shoe option gives the underwriters the right to
buy additional shares at the offer price to cover
overallotments. This is a cost to the firm because the
underwriter will only buy additional shares when the offer
price is below the price in the aftermarket.
Figure 2.7 Costs of Raising Capital
Security Sales by Public Companies

 Rights Issues
 Issues of securities offered only to current stockholders

 Example
 Krypton Industries needs Rs. 109.66 crores of new
equity. Market price Rs. 20. Krypton decides to raise
additional funds by offering the right to buy 17 new
shares (for every 10 shares they have) at Rs. 15 per
share. With 100% subscription, what is value of each
right?
Security Sales by Public Companies

 Current Market Value

 10 x Rs. 20 = Rs. 200
 Total Shares
 10 + 17 = 27
 Amount of new funds
 17 x Rs. 15 = Rs. 255
 Ex-Rights Price
 (Rs. 200 + Rs. 255) / 27 = Rs. 16.85
 Value of a Right
 Rs. 16.85 – Rs. 15 = Rs. 1.85
 Thank you

Compiled from various sources: Principles of Corporate Finance (11ed), Money control, Business standard, Investopedia etc.