An initial public offering (IPO) is the event when a privately held organization initially offers stock shares in a company on a public stock exchange. The act of having an IPO is sometimes called “going public”, as it enables the general public to participate in trading shares in a specific company.
Ownership in a company is often calculated by dividing the perceived value of the organization into individual shares. When a company is privately held, all shares are held by individuals or organizations that have limited ability to trade or sell shares with other private or institutional investors. A company that is not publicly traded is not required to publicly disclose information regarding share volume and price.
With an IPO, an organization’s shares are listed on a public stock exchange, such as the New York Stock Exchange (NYSE) or the National Association of Securities Dealers Automatic Quotation System (NASDAQ) in the US when the shares are initially publicly listed. is listed. The exchange makes it easy for both institutional and retail investors to buy and sell shares in the company. As part of an IPO, usually also a share issue, a company offers new shares in the company that can be purchased.
With an IPO, an organization will get a new listing on a public exchange, which includes a stock ticker symbol that makes it easier to identify and trade the stock. New listings will also be tracked by a public exchange, which provides a stock, share volume, as well as the bid and ask prices for a stock over a certain time frame, such as a day or 52-week period.
History of IPO
The concept and practice of publicly trading shares and holding an IPO is hundreds of years old.
The first modern IPO is likely to have occurred in the early 1600s with shares of the Dutch East India Company that were offered to residents of the Netherlands. An IPO in the US, and the ability to publicly trade shares in a company, is an idea that is almost as old as the country itself. The NYSE has its roots in 1792, including the Bank of New York in the first US IPO and the first bank in the United States.
In the 20th century, stock exchanges flourished along with the emergence of various communication technologies. These include the stock ticker telegraph (also known as ticker tape), the telephone, and the Internet.
In technology, IBM was publicly traded in 1911, when the company was producing commercial machines, such as typewriters and scales. The 1980s were a particularly notable period for tech IPOs, with many industry giants going public. In March 1986, Microsoft went public with an IPO share price of $21. That same month, Oracle went public at a starting price of $15 per share.
The dot-com bubble era of the late 1990s also led to an explosion of technology IPOs. This included Amazon in May 1997 and eBay in September 1998, both companies initially trading at $18 per share. The dot-com era led to several major IPOs for companies that ultimately failed, including Pets.com, which had its IPO in February 2000 and ceased operations in November of the same year.
In the 2020s, one of the largest software IPOs was with the public offering of cloud data platform Snowflake in September 2020, in which the company raised more than $3 billion.
IPO volume in any given period can fluctuate for many different reasons. In times of overall economic growth, there is a tendency to have more IPOs as investors are more optimistic and willing to participate. The reverse is often true in times of high inflation, slow economic growth or other factors affecting macro-economic stability and investor sentiment towards IPOs.
How Does an IPO Work?
The process of setting up and executing an IPO is a time- and resource-intensive activity.
There can often be regulatory restrictions and requirements depending on the jurisdiction in which the company wishes to list its shares. In the US, the Securities and Exchange Commission (SEC) sets the rules and regulations that determine the eligibility for a company to be publicly traded.
There are several basic steps for an IPO, including:
- strategic review. The initial step for an organization is to conduct a comprehensive review of operations and business goals to understand how an IPO will affect the organization.
- Engage with an underwriter. The organization will need to tie up with an investment bank or group of investment banks that will act as an underwriter for the IPO. Underwriters are those who sell the initial block of shares for a commission.
- Develop a brochure. The prospectus is the document that outlines the company’s financial position and the number of shares the company intends to issue, as well as the opportunities and challenges the company faces.
- File an S-1 with the SEC. The formal prospectus document that is publicly filed with the SEC in the US is the S-1. When an S-1 is filed with the SEC, it is usually referred to as the point at which a company has filed for an IPO.
- Investor promotion. Companies would be required to promote their IPOs to potential investors, in what was once commonly referred to as an “investor roadshow”.
- issue of shares. On the day the IPO takes place, the stock has an opening price and the stock starts publicly traded.
For investors, there are several possible ways to invest in an IPO. Institutional investors are often able to gain direct access through underwriters to be able to purchase shares at the initial listing price. Individual investors can place bid or buy orders through a stockbroker or retail investment trading platform to receive shares in an IPO when it is available.
IPO performance
The performance for an IPO is often measured by the trading volume of the shares and the increase in the value of the shares on the day the shares are traded. The performance of an IPO can also be measured in terms of share volume or price for any period of time after the shares are first listed.
As part of the process of setting up an IPO, a company and its underwriters will determine the valuation for the company. Based on that expected valuation, the company — along with its underwriters — will set an opening share price and float shares for the number of shares to be made available. If the price is deemed to be undervalued, investors can potentially bid up the price aggressively. The reverse is also true for stocks that are deemed too expensive. It’s hard to predict the value of the hype and initial investor interest leading up to an IPO, which can lead to a price increase.
Determining the value of a company and what it should be worth in an IPO involves looking at the fundamentals of a company’s financial performance, as listed in the company’s prospectus and S-1 filings. From that data, investors can identify the company’s expected growth rate, potential risks, and general outlook that will help inform the value and pricing of the stock.
Advantages and Disadvantages of IPO
There are several advantages of holding an IPO for a company, which are as follows:
- Provides an exit, providing a way for early investors and company insiders to sell their equity and potential profit. An IPO is also sometimes viewed as a liquidity event, where insiders can more easily trade shares.
- Enables an organization to raise more funds from the public market through private, institutional or venture capital investors.
- Allows a company to raise capital without raising debt.
- The stock on the public exchange elevates the profile of the company with the ticker symbol.
- Can be a trigger for financial analyst coverage, which can inspire additional interest and valuations for a company.
The disadvantages of holding an IPO for a company are as follows:
- Compliance requirements for a public company involve significant resources and costs.
- Income needs to be publicly reported every quarter, which is a time-consuming process.
- Performance is publicly assessed every quarter, which may lead some organizations to prioritize short-term profits to meet quarterly expectations, rather than focusing on long-term growth.
IPO options
For organizations looking to raise capital and grow, there are several different options for taking the IPO route, including the following:
Direct listing. A direct listing is an option for companies that wish to be listed on a public stock exchange, rather than holding an IPO where shares are offered through a syndicate of underwriters. With direct listing, organizations can get their shares listed on the exchange directly without going through the IPO process with the underwriters. Among technology vendors that have gone the direct listing route in recent years is Slack, which listed in 2019.
SPAC, A Special Purpose Acquisition Company (SPAC) became a popular route for companies to the public market in 2020. Among the many companies to list on public stock exchanges through SPAC in 2020 was data backup vendor AvePoint in November 2020. With a SPAC, an existing holding company that is already listed on a public stock exchange merges with a private company. The resulting merged company remains listed on the exchange.
stay private Another alternative to an IPO is to keep the company private. A privately held company can still raise funds from venture capitalists and institutional investors. It has also been the case that a public company is taken private after an acquisition to help reorganize the public markets without compliance checks. Such was the case with Anaplan, which decided to go private in March 2022 after it was acquired by private equity firm Thoma Bravo.
