What is an IPO (initial public offering)?
Short answer
An IPO is the first time a private company sells its shares to the public, in order to raise money and list on a stock exchange. After listing, the shares trade between investors on the exchange.
What happens in an IPO
A private company decides to become publicly listed and hires investment banks (in India, merchant bankers) to manage the process. The company files a detailed offer document with its securities regulator: a registration statement and prospectus with the US Securities and Exchange Commission, or a draft and then final red herring prospectus with the Securities and Exchange Board of India (SEBI). The document describes the business, its finances and its risks.
The shares sold may be new shares issued by the company (raising money for it), existing shares sold by current holders (an "offer for sale"), or both. The money from an offer for sale goes to the sellers, not the company.
Setting the price
In a fixed-price issue the price is announced up front. In book building, the company gives a price range or band, institutions and other investors bid inside it, and the final price is set from the demand collected. Underwriters may commit to buying unsold shares in some structures.
Listing and after
Once shares are allotted, they begin trading on the exchange on the listing date. The listing price can be above or below the issue price. Early shareholders are often bound by a lock-up period that restricts them from selling for a set time. Listed companies must then publish regular financial results and disclosures.
Not every company goes public through an IPO. In a direct listing, existing shares are listed without a new offering, and a special purpose acquisition company (SPAC) merger is another route.
Things to read in the offer document
The document explains the objects of the issue (how the money will be used), the company’s financial history, its major risks, related-party dealings and the shareholding before and after the issue. Regulators review disclosure but do not endorse any offer.