What Is Oversubscription In IPO?

An initial public offering (IPO) allows companies to offer shares to the public by listing them on the stock exchange. IPOs can attract significant investor interest when the company has strong financial performance, strong growth potential, and favourable market conditions.

When the number of shares investors apply for exceeds the number available for allotment, the IPO is considered oversubscribed.

This article explains what oversubscription in an IPO is, how it works, what happens after oversubscription, and how shares are allotted.

What is Oversubscription in an IPO?

Oversubscription in an IPO occurs when the total number of shares applied for exceeds the number of shares available for allotment.

For example, a company offers 1 crore shares for subscription in its IPO; the issue received applications for 3 crore shares; therefore, the issue is oversubscribed by three times.

IPO oversubscription is expressed as a multiple. An IPO receiving applications for three times the shares offered is described as being subscribed three times.

Oversubscription can occur across different investor categories, including retail investors, non-institutional investors, and qualified institutional investors. Allotment considers the subscription figures for each category separately.

Also Read: IPO allotment basics

How Does Oversubscription in an IPO Work?

In an IPO oversubscription, not all investors receive the full allocation of shares they applied for. The market regulator, the Securities and Exchange Board of India (SEBI), has issued guidelines for share allocation in such scenarios.

The available shares are distributed among different investor categories according to predetermined percentages. Usually, companies follow the allocation percentages below.

• Up to 35% of the IPO shares are reserved for retail investors.
• Up to 15% of the IPO shares are reserved for Qualified Institutional Investors (QIB).
• Up to 10% to 15% of the IPO shares are reserved for Non-Institutional Investors (NII).

For retail investors, if the demand exceeds the allocation limit, the shares are distributed through a lottery system. The SEBI-approved methods ensure fairness but reduce the probability of allotment for each applicant.

Reasons for Oversubscription in IPO

Here are several reasons that lead to oversubscription of an IPO:

• Strong company fundamentals:

Investors may show higher demand when a company demonstrates revenue growth, profitability, strong cash flows, and sustainable business prospects.

• Valuation:

A reasonable IPO valuation can encourage participation, particularly when the issue price appears attractive compared with industry peers.

• Growth prospects:

Companies operating in expanding industries or with significant future growth opportunities may attract substantial investor interest.

• Positive market sentiment:

Bullish market conditions can increase investor participation as investors become more willing to allocate capital to new public offerings.

• Strong brand recognition:

Well-known companies with established businesses, popular products, or strong customer bases may generate higher investor demand.

What happens when an IPO is oversubscribed?

When an IPO is oversubscribed, the company receives more applications for shares than the number of shares it offers. As a result, not all eligible applicants may receive the full number of shares they requested.

The final allotment depends on the investor category and the applicable allotment rules. Retail investors may receive shares through a lottery mechanism when eligible applications exceed the shares available for allotment.

For other categories, shares may be allotted under applicable proportionate or other prescribed mechanisms.

How Shares are Allotted When an IPO is Oversubscribed?

When an IPO is oversubscribed, shares are distributed using a combination of a lottery system and proportionate allocation.

Retail Individual Investor

• Minimum lot priority: The registrar tries to allot at least one minimum lot to every valid applicant.

• Computerised lottery: If total demand exceeds the available minimum lots, a computerised lottery system selects successful applications.

• Zero Allocation: Unselected applicants receive no shares, and the blocked funds are released.

Non-Institutional Investors

• Proportionate Basis: Shares are divided in proportion to the bid size and allotted.

• Ratio Distribution: If an NII category is oversubscribed by 50x, an applicant gets 1/50th of the shares they applied for.

Qualified Institutional Buyers

• Pro-rata: Institutional entities receive shares proportionately based on the institutional bidding demand.

How Oversubscription Impacts You as an Investor?

Here are several ways oversubscription impacts you as an investor:

• Lower allotment probability:

Higher demand can reduce the likelihood of receiving shares, particularly when applications substantially exceed the shares reserved for the relevant category.

• Reduced share allocation:

Successful applicants may receive fewer shares than they originally requested because the available shares must be distributed among eligible investors.

• Listing uncertainty:

Oversubscription indicates strong demand during the IPO but does not guarantee a positive listing performance or future returns.

FAQs

What happens when an IPO is oversubscribed?

When an IPO is oversubscribed, you may not receive all the shares you applied for, or you may not receive any shares at all. Shares are allotted based on the applicable allotment rules and investor category.

What happens when an IPO is fully subscribed?

An IPO is fully subscribed when applicants match the number of shares offered. In this IPO, enough applications are received to cover the shares offered; therefore, most applicants will receive an allotment.

How much oversubscription is good for an IPO?

No fixed oversubscription level is considered good for an IPO. A higher oversubscription multiple shows high demand, and investors are bullish on the company’s future growth. However, higher oversubscription doesn’t guarantee listing gains.

What is the oversubscription ratio in an IPO?

An oversubscription ratio measures investor demand by dividing the total number of bids received by the number of shares offered.