Differences between IPO and FPO
Companies are in constant need of funds. Be it to fund their operations, expansion activities, pay off debt, capital is an indispensable part of a business.
Two common sources of raising capital by businesses are Initial Public Offerings (IPO) and Follow on Public Offerings (FPO).
While they may sound similar, they differ from each other in various aspects. As an investor in the stock market, you must be aware of the differences to make wise decisions.
In this blog, we are going to cover the following:
- What is an IPO?
- What is an FPO?
- Difference between IPO and FPO
- Which one is better for you: IPO or FPO?
What is an IPO?
IPO is a medium through which companies raise capital in the primary market by issuing their shares to the public and/or preferred investors.
The process is also known as "going public". Shares that private investors previously owned are offered to the public after an IPO.
The reasons for issuing an IPO are numerous. Paying off debt obligations, research and development, paving an exit way for existing shareholders, growth, etc., are a few of them.
Since it is a complicated process requiring high expertise, a firm takes the support of external parties such as underwriters, investment banks, bankers, promoters, etc.
Firstly, an investment banker is hired. Then, a Red Herring Prospectus is prepared to be submitted to SEBI. After SEBI is done with all the verification, the company goes on a roadshow to promote its offering. Pricing of the issue is completed, and applications are offered to potential investors. And finally, the allotment of shares is done.
What is an FPO?
A Follow on Public Offer is a process by which companies intend to diversify their ownership, i.e. equity base. In this, a firm that is already listed on any of the stock exchanges plans to issue fresh shares to the investors.
Again, the reasons for the issue of FPO by firms are simple. Funding their operations or raising funds for expansion activities are the common ones.
The two types of offerings in FPO are Dilutive and Non-dilutive offerings.
In dilutive FPO, the value of a firm remains unchanged. Earnings per share decline since new shareholders enter the firm and dilute its ownership. The firm issues more fresh shares to raise capital in a dilutive offering.
In the non-dilutive offering, existing shareholders sell their shares to the public. They are generally founders or directors. Since existing shares are sold to the public, earnings per share don't get affected. Here, the proceeds from the sale go to the existing shareholders of the company.
Since an FPO is issued after a company has issued its IPO, investors consider it a safer option to invest in. It is because investors can do an analysis of how a company's shares have performed in the past.
Differences between IPO and FPO
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Meaning
An IPO is a process through which a company offers its shares to the public for the first time. However, a Follow on Public Offer is a procedure for companies to raise funds after it has raised an IPO.
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Share capital
Through an Initial Public Offering, a company can raise fresh capital by selling its shares to the public for the first time.
In the Follow on Public Offer, the share capital of the company remains unchanged in non-dilutive FPO. In dilutive FPO, the company's share capital increases.
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Risk factor
Initial Public Offering is considered a high-risk investment option by investors. It is because a company does not have a record of proven success in the performance of shares in the past.
A follow-on Public Offer is relatively less risky to invest in because investors can analyse shares' performance in the past, and fundamental analysis can be done.
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Issuer
A company issuing its IPO is not listed on the stock exchange prior to the IPO. However, a company issuing FPO is already listed on the stock exchange at the time.
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Purpose
The purpose of raising funds through IPO is to raise additional capital from the public. However, a company aiming to diversify its equity base issues an FPO.
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Returns
Return and risk are correlated. The higher the risk, the higher will be the returns, are the basic finance rule. Since investing in an Initial Public Offering is riskier than a Follow on Public Offer, returns are expected to be higher in an IPO.
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Types/Offers
Two types of shares in an IPO are equity and preference shares. FPO is also of two types, i.e. dilutive and non-dilutive.
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Evaluation
While investing in an IPO, investors need to go through a company in detail. A red herring prospectus does help a lot. Since it is highly risky, only experienced and knowledgeable investors tend to invest in IPOs.
In FPOs, since investors know how a company performed after issuing its IPO, making an investment decision becomes more uncomplicated.
Which investment option is better for you?
No investment option is best for everyone. Each one has pros and cons. The one that is perfect for you depends on your investment goals and risk tolerance. If you understand the business model of a company well, have a high-risk appetite, expertise and intend to make high profits, an IPO might be a good option.
However, if you don't have enough time to study the company's fundamentals, lack expertise and are okay with decent returns with relatively lower risks, FPOs are for you.
Final words
Many investors investing in stock markets are confused between IPOs and FPOs. They consider them to be the same. However, that is not true.
IPO and FPO are entirely different in various aspects, such as the objective, the risk involved, the status of the issuing company and others.
This enlightened blog investors on the difference between the two and are only for educational purposes. Consider your financial advisor for better decision-making and to prevent losses while investing.