Three Reasons Why Companies Come Up With IPOs

Before betting your money on an initial public offering (IPO), ask yourself why the company has come up with an IPO.
Three Reasons Why Companies Come Up With IPOs

Getting listed on the Indian stock market is considered one of the highest achievements of a business. This year so far, 28 companies have listed their stocks on the National Stock Exchange (NSE), as per its website. However, before putting your money in a company's Initial Public Offering (IPO), you should ask yourself why it has come up with an IPO—a phase when the stocks are sold at a set subscription price for the company’s stock market debut.

Raise Capital

One of the biggest reasons for launching an IPO by a company is to raise working capital for activities like expanding its current business into other verticals or growing its customer base by opening physical stores in untapped areas. In addition, the company could use the funds for research and developing new products.

A financially sound company might also choose to float an IPO instead of applying for a bank loan. Typically, banks scrutinise the company balance sheets closely before disbursing a loan, but it may come with a hefty interest rate. Hence, the IPO route is favourable for companies looking to raise large amounts of capital. But, if the company board or the promoters use the funds raised during the IPO process wisely, they can successfully expand the business and reward the shareholders.

Reducing Existing Debt

Many companies float IPOs to reduce their debt burden. So, investment in these IPOs can be risky. For example, energy company Inox Green, which offers operational and maintenance services for wind energy projects, has recently launched an IPO to raise Rs 740 crore to clear off its existing debt worth Rs 1,064.99 crore as of September 30, 2022. Inox Green's first-quarter revenue for the fiscal year 2023 stood at Rs 63.13 crore, while the loss was Rs 11.58 crore. 

However, companies with future growth potential sometimes float IPOs to clear off the debt and raise fresh working capital.

Exit Option For Shareholders  

When promoters or investors sell their shares through an IPO, it could be one of the major red flags to keep a watch for new investors, as there might be a sound reason for them to exit the company. For instance, the company's profit margins may have declined, or there could be too many competitors making it difficult to run its business profitably, or the operational cost in that particular sector is too high. 

For example, investors offloaded their Paytm shares during the launch of its IPO on November 8, 2021. Paytm, owned by One97 Communications and one of the payment giants in India, saw significant losses, stood at Rs 484.10 crore in the second quarter of FY23, leading to an exodus of investors from the company. As a result, Paytm stock has plummeted more than 67 per.

How To Find These Details

A company has to submit a Red Herring Prospectus (RHP) to the Securities and Exchanges Board of India (SEBI), and the same has to be made public during the announcement of the IPO, this document contains all the details like the amount of money they plan to raise through the IPO, promoters’ current equity, where the money will be utilized key financial, risk factors, key financial information and the name of the auditing firms which have audited the books of the company. The RHP of a company can be found on SEBI’s website, it also provides key business data, which can be used to gauge the potential growth of the company.

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