Why Does a Company Decide to Go Public? – IPO

When a private company decides it needs extra funds, one of the best ways it accumulates those funds is through an Initial Public Offering or IPO. An IPO is an offer of stocks or shares in a company where investors become shareholders on investing, they think will get them profitable returns. An IPO is meant to be mutually beneficial for the company and investor. While the company gets the financial support it requires, investors become shareholders and earn a subsequent right to gain profits and dividends earned by the company. A company issues an IPO on the National Stock Exchange (NSE) and the Bombay Stock Exchange (BSE) after it has complied with all the mandates of the Securities and Exchange Board of India (SEBI). It also has to get the necessary underwriting or backing from a recognized bank before going public. Moreover, a ton of paperwork and compliance requirements are involved before the release of the IPO, which carry significant costs. Why then does a company decide to go public? Read on to find out.

To raise additional capital.

The main aim of issuing an IPO in the capital market is to raise additional funds because the company is falling short of funding even from its angel investors. Angel investors are those who have a core stakeholding in the company or are close friends and family. Once those in close-knit cannot invest more capital in the company, it turns to the public. The capital that it intends to raise can be used for various purposes. Some of these include:

• Expansion of the company or setting up new branches
• To fund research and development to consequently increase sales
• To invest in marketing and creating brand awareness for a higher reach
• Paying off debt or the repayment of loans taken from third parties

There are plenty of other reasons a company goes public, most of which it mentions in the Draft Red Herring Prospectus (DRHP) before the IPO’s launch.

To save on costs and interest.

When the core stakeholders of a company can’t fuel funding, companies have options other than converting their private company into a public one. These include going to private investors, venture capitalists, high-networth individuals, or banks. However, the costs involved in raising capital through these methods can get very expensive. A bank can even charge interest every year, and a company in need of funds will not want to add interest repayments to their plate. Going public is far more affordable and convenient for a company, despite the compliance regulations. Moreover, immense liquidity gets created when a company issues an IPO.               

To gain public visibility.

One of the main reasons for going public is gaining visibility and ample limelight. When a company is private, there is no guarantee that it will get the goodwill it deserves, as it remains hidden from the potential investor’s reach. Once the news of the IPO comes to the surface, it sparks public attention and adds to the company’s exposure. Investors start reading up on the IPO details and look up the company’s fundamentals, financial performance, and industry which boosts brand presence. As investors showcase their interest, the brand image of the company hits new heights. An investor’s perception is crucial in determining the market price of the IPO shares. So, the company needs to have a positive impact on them through their DRHP. Also, shares of such companies trade in good volumes increasing liquidity too, and existing shareholders earn more profits for their existing shares in the company.

To enhance credibility.

SEBI regulates the equity or stock market and is responsible for ensuring that investors stay protected and know everything about their investments and the underlying companies behind them through various mandatory compliance norms. SEBI requires necessary paperwork and the disclosure of all financial information in a document that goes up on its portal. This document is called the DRHP and consists of detailed information on the company’s fundamentals, revenues, profits and losses, strengths and risks, industry trends, and more. All this becomes available for public scrutiny. So, once a company gets the stamp of approval from SEBI, investors begin to consider it as a reliable company with good credentials.

To sum it up:

These are some of the main reasons a company decides to go public and issue an IPO. However, there are certain disadvantages too of going public like the loss of autonomy, quarterly and annual SEBI compliance requirements, and immense pressure to overperform in the short term. However, a company can avoid these by thorough planning and considering the implications of the IPO. Investors too must do their research beforehand to minimize risks and losses.