When an unlisted company seeks to raise money by selling securities or shares to the public for the first time, it announces an Initial Public Offering (IPO). In other terms, it is the public sale of securities on the primary market.
The last year’s initial public offerings by firms rose to about 63, the highest since 2010. Not just that, in the previous year, these IPOs raised a record-breaking amount of Rs. 1,19,882 crores (USD 15.4 billion) in total as well.
However, one thing you need to remember is that not all of them are created equal, and not all new companies that issue their first stock are successful ones. Thus, if you are investing for the first time, you should be wary of some pros & cons of IPO, and this article will help you with that.
What is an IPO?
As mentioned above, an Initial Public Offering allows the company to issue the security by selling its stock to the general public. It is a type of sale that most companies do to raise capital. New securities issued for the first time are dealt with in a primary market.
The company became publicly traded, and its a shares are available for free open market trading when listed on a stock exchange. The process can be quite costly but, at the same time, easy, making it an ideal option for those who lack money or time to conduct due diligence on their business.
Let’s move to the pros & cons of IPO as you have understood the gist of it.
Pros & Cons Of Investing in IPO
Choosing an initial public offering has several benefits over staying private, especially if your business grows rampantly. Below mentioned are some of the significant pros & cons of IPO you should be aware of:
Pros of IPO
Capital Access:
A corporation may never obtain a capital infusion more than what it raises by going public. The substantial funding available can drastically alter a company’s growth trajectory. After its IPO, an ambitious business might start a new phase of financial stability. This decision can support R&D, recruit new staff, construct buildings, pay off debt, finance capital expenditures, buy new technologies, and so on.
Increased Recognition:
When evaluating the pros & cons of IPO, this positive point takes the higher side. It helps the management to gain more recognition and credibility by becoming a reliable company.
Companies that are publicly listed are commonly more well-known than their private rivals. Not just that, but a successful process also generates media attention in the financial sector.
More Flexibility:
The cost of capital is a significant barrier for every organization. Before going public, businesses may have to accept loans from banks at higher interest rates or give up ownership in exchange for funding from investors. An IPO significantly lowers the barrier to obtaining new financing. With more cash, businesses can spend more on investing in fixed acquisitions and employing top experts.
Future Trading:
Being a public company also makes it possible to accept publicly traded stock as payment. Even though a private company can utilize its stock as payment, the private stock is only valuable if a good exit opportunity arises. Public stock, on the other hand, can be useful for paying employees and buying other firms because it is effectively a type of cash that can be purchased and sold at any time at a market price.
Cons of IPO
Higher Starting Costs:
IPOs can be extremely expensive. Beyond the ongoing costs of regulatory compliance for public companies, the IPO transaction process also requires investing funds in an underwriter, an investment bank, and an advertiser to look after everything seamlessly.
Increased Pressure to Deliver Results:
Amid market volatility, publicly listed corporations are under tremendous pressure to maintain their stock values at high levels. Executives might be unable to make risky decisions if they have a negative impact on the stock price. This occasionally abandons long-term strategy in favor of immediate rewards.
More Administrative Work:
Public companies must submit their financial accounts annually to the Securities and Exchange Board of India (SEBI), whereas private companies are exempt. Preparing these statements and having them audited as part of the disclosure procedure costs money.
Less Autonomy:
Public firms are run by a board of directors, which is directly answerable to shareholders rather than the CEO or president. Even if the board gives a management team the authority to oversee day-to-day business operations, they retain the final say and have the right to remove CEOs, including those who created the business. Some companies avoid this by going public in a way that gives their founder veto authority.
Why should you invest in an IPO?
Don’t wait to get involved. IPOs might pay off if the firm grows significantly over time. This is how you can increase your wealth over the long term. You would increase in value along with the business expansion if you invested in a firm that is doing well financially.
Here are some of the key pros listed down:
- Transparency
You’ll have pricing transparency like major investors. The IPOs order shows the price of the securities. Because of this, the entire procedure is open. When the firm went public, the share prices would probably depend on unpredictable market circumstances.
- Long-Term Objectives
IPO investment is similar to equity investment. They will probably make you a lot of money in the long run, enabling you to achieve your long-term objectives, like purchasing a home.
- Purchase Cheap, Earn Huge
When a company plans to go public, its shares are offered at a discount. Therefore, the promising firm will offer its shares at the lowest price when it goes public, but once the company gets listed and performs well in the stock market, investing in that company might become an expensive affair.
Before investing in an IPO, you must be aware of all the positives and negatives. Public offers have benefits and drawbacks, just like any other investment. Let’s look at the disadvantages of investing in an IPO. One of the biggest cons of participating in the IPO is that obtaining the shares are not guaranteed.
Let’s look at the negative side:
- Privacy
When applying for an IPO, many investor details must be included in the documentation and application. It could contain some of your information that you would prefer not to have public knowledge of. But you are required to offer the same.
- Requires Time
You must thoroughly research the company and its performance in the past before investing in an IPO. Although it is included in the firm’s prospectus, comprehending it takes effort and time.
- External Interference
External factors can significantly impact pricing, mainly when businesses are operating under government regulations that are prone to change depending on the Indian political climate at the time.
Frequently Asked Questions (FAQs)
Q.Is buying an IPO a good idea?
By now, after evaluating the pros & cons of IPO, you would have gotten some idea. Still, to provide more clarity, yes, you can consider it a good idea to invest in an initial public offering. They are alluring if you are confident in the company’s viability and the price’s fairness. But it does not mean you should invest in every IPO, as all businesses might not succeed or add value.
Q. Are the pros & cons of investing in IPO leading to major losses?
If you only wish to concentrate on the loss factor, yes, you will have to bear it. If you are allotted shares and the price is lower than the listing price, you might lose money. But aside from that, there is no loss if you are not allotted shares.
Q. How many IPOs are successful?
The Indian primary market was active all year long. From 2007 to the second quarter of 2022, 504 IPOs in India were successful. In all, 63 firms raised Rs. 1,18,704 crore by going public in 2021.
Q. How does IPO affect a company?
An IPO brings in fresh capital that the company can utilize to expand without further debt, pay investors and staff more fairly, and offer stock options or other forms of remuneration.
Q. Does IPO always give profit?
Not always, but yes, it gives you profit if you invest in the right company. You can simply get in on the “ground floor” of a business with significant growth potential by investing in its stocks.
Q.Is IPO better than stock?
IPOs could be better than stocks in terms of returns and profits. But you can’t say they’re secure until you invest in a profitable one.
Q. Do IPOs usually go up or down?
There is no accurate way of deciding whether an IPO will perform well or not. It tends to go up or down depending on the company’s performance and the soundness of its foundation.
Q. What percentage of IPOs are profitable?
Roughly speaking, out of 10 initial public offerings, 1-2 are profitable and make money. Basically, its investors call to invest in companies with strong fundamentals.