IPO Terminology: Key Terms Related to IPO

Now that you know the basics of IPO, it makes sense to read the important terms relating to it so you can make informed decisions when considering investing in one. Note that the following are a few important terms, which are relevant to the Indian market. Other countries may use different terms for the same concept.

List of Key Terms Related to IPO Terms

1. Draft Red Herring Prospectus (DRHP)

DRHP is a detailed document discussing key information about the company looking to go public. It contains information like the company’s operations, financials, management, and the proposed IPO. This document is released much before the IPO and hence, may not contain all the necessary information, such as price and dates of the issue. The company submits it to the regulatory authorities (such as the Securities and Exchange Board of India, or SEBI, in the case of India) before the IPO for their reviews and comments.

2. Red Herring Prospectus (RHP)

RHP is released much closer to the IPO date, and it contains all the necessary information, including the issue price, issue size, IPO dates, etc. It is released after getting regulatory approval on the DRHP. At times, the information in the RHP is implied, which means it is subject to change.

3. Book Building Issue vs Fixed Price Issue

In a fixed price issue, the price at which the IPO will be issued is decided already. Only once the IPO is listed on the stock exchange already can the price of the stock start fluctuating. 

On the other hand, in a book-building issue, a price band is presented to the investors by the investment bank. The investors, including mostly institutional investors, thereafter bid prices. Based on these bids, the bank tries to gauge what would be a fair price for the IPO, and a final price of the issue is decided upon, called the cut-off price.

4. Price Band

This is the range of prices within which the investors can submit their bids for IPO shares. A price band is applicable only for a book-building issue because, in a fixed price issue, the exact price is already set.

5. Book Running Lead Manager (BRLM)

The BRLM is the investment bank managing the IPO process. It performs various tasks in coordination with the company going public, such as setting the price band and book building.

6. ASBA (Application Supported by Blocked Amount)

ASBA, or Application Supported by Blocked Amount, is an IPO application process developed by SEBI, allowing the application money to be blocked in the bank account when the investor, or depositor, is bidding for an IPO.

Investors cannot spend the blocked amount, but they continue to receive interest on the blocked amount. Once the allocation status of the IPO shares is determined, the blocked amount is withdrawn or released. The funds are withdrawn by the bank when the IPO shares are allocated to the investor. The funds are released or unblocked when the IPO shares are not allotted or are only partially allotted to the customers.

7. Oversubscription and Underscubscription

Oversubscription means when investor demand exceeds the number of shares offered. This triggers several key implications:

Price Discovery: Competition among investors often leads to a higher final issue price compared to the initial price band. This signifies strong market confidence in the company's future prospects.
Allocation: Shares are typically allocated on a pro-rata basis, meaning investors receive a smaller proportion of their requested shares.
Market Signal: An oversubscribed IPO is generally viewed as a positive indicator, boosting the company's image and potentially attracting further investment.

Under subscription occurs when investor interest falls short of the offered shares, resulting in the following impact:

Price Pressure: The issue price may remain near the lower end of the price band or even be revised downwards, reflecting subdued investor enthusiasm.
Allotment: Investors may receive their full requested shareholding due to the lack of demand.
Market Signal: An undersubscribed IPO raises concerns about the company's prospects, potentially impacting its credibility and future fundraising capabilities.

8. Fresh issue vs Offer for Sale

In fresh issues, the company issues new shares, raising fresh capital for expansion, debt reduction, or other strategic goals.

Offer for sale simply involves existing promoters or investors offering their shares to the public, partly or wholly. No new capital is raised for the company, but existing shareholders monetize their holdings.

9. Objects of the Issue 

The DRHP and RHP usually also state how the company would spend the money acquired from the fresh issue component of the IPO. These goals are stated in a separate section of the DRHP and RHP called ‘Objects of the Issue’. One can use this section to gauge whether the company is trying to expand or simply trying to get out of a bad financial position.

10. Lot Size 

You usually have to buy shares in an IPO in lots. In other words, you must buy sets of shares and not individual shares of any quantity. For example, if the lot size for an IPO is 100 shares per lot, then you can only buy 100 shares, 200 shares, 300 shares and so on. You cannot buy just 5 shares or 115 shares or 234 shares. The system of lot size ensures that only serious investors are engaging with the IPO.

11. Issue Price

The issue price is final price per share determined after the book-building process. Those shareholders who secured their IPO bids will become owners of the shares at this particular price. This is the price based on which the listing day gains and beyond will be calculated.

12. Cut-Off Price  

In book-building IPOs, the "cut-off price" is the final price per share at which investors receive allotment. It's determined by analysing bids within a predefined price band, aiming to achieve maximum investor demand and fair price discovery. This price can fall anywhere within the band but is never lower than the floor price.

13. Issue Open and Closing Date 

In an IPO, the "issue open date" marks the start of the subscription period, when investors can submit bids for shares. This period lasts until the "issue closing date," which signifies the deadline for submitting bids. After this date, bids are no longer accepted, and the allotment process begins to determine who receives shares and at what price.

14. Listing Date  

In an IPO, the "listing date" is the first day the company's shares begin trading on a stock exchange. It typically falls 4-6 business days after the issue closing date, marking the moment investors can finally buy or sell their allotted shares on the open market.

15. Types of Investors

1. QIB (Qualified Institutional Buyer) - Institutional investors with specified net worth eligible for higher IPO allocation.
2. RII (Retail Individual Investor) - Individual investors applying for IPO shares through ASBA.
3. NII (Non-Institutional Investor) - Investors not classified as QIBs or RIIs.
4. Anchor Investors - Institutional investors pre-committing to a specific amount in the IPO, providing stability.
5. Minimum Subscription - Minimum percentage of IPO shares that need to be subscribed for the issue to proceed.

Final Words

Now, armed with familiarity with the IPO jargon, you can confidently engage in informed discussions, decode financial reports, and make well-reasoned investment decisions.

Next, we will learn about the key stages in the process of an IPO. It will help you better understand the timelines of an IPO and thus suitably respond to each stage of an IPO that you are interested in.