IPO vs FPO is the most hovering concept in the minds of investors! After all, who doesn’t want to be a direct part of the big money-making companies…
Public listing is the ultimate goal of most of the companies that you see around. Reason? Raising money from the equity market! Although companies also receive money through corporate bonds, they need to pay interest on that.
That’s why companies prefer to raise money either through IPO (Initial Public Offer) or FPO (Follow-On Public Offer). You know what, these terms are just like the tip of an iceberg with underlying huge concepts and various types.
So, let’s delve into IPO vs FPO, their types, and key differences!
(A) What is an IPO?
First of all, let’s begin with the definition.
An Initial Public Offering (IPO) is the process by which a privately owned company makes its shares available to the public for the first time. It marks the transition from being privately held, with a limited number of investors, to becoming a publicly traded company, offering shares to a broader audience through stock exchanges.
Sounds complicated? Let me explain it in simple terms!
Let’s take the example of a fictional company called “GreenTech Innovations.” Up until now, only a handful of investors and the company’s founders owned shares in GreenTech. They’ve been working hard, developing eco-friendly technologies, and making a name for themselves.
Now, GreenTech wants to raise more funds, but the angel investors or Venture Capitalists aren’t willing to pour funds anymore. So, the company decided to raise money from the equity market. Also, it believes it’s ready to share its success with the public.
So, it finally declared to have an IPO (Initial Public Offering). During the IPO, anyone interested-from individual investors to big institutions- can buy shares of GreenTech.
For GreenTech, the IPO is a game-changer. The funds raised from selling shares can be used to enhance their research, develop new green solutions, and maybe even expand to new markets. And as a shareholder, you get to be part of GreenTech’s journey and, hopefully, share in their future success.
(B) Significance of IPO
Let’s understand the significance of IPO from both the company’s and investor’s perspective-
|It provides an avenue for companies to raise capital by selling shares to the public. This influx of funds can be crucial for business expansion, research and development, debt repayment, or other strategic initiatives.
|It offers an opportunity for investors to become shareholders in a company with growth potential, contributing to the company’s financial health.
|Market Visibility and Prestige
|Going public enhances a company’s visibility and prestige. Being listed on stock exchanges like the NYSE or NASDAQ can boost the company’s image and attract attention from a broader audience.
|Investors gain access to a wider array of investment opportunities, including shares of well-established companies, increasing their portfolio diversity.
|Liquidity and Exit Strategy
|IPOs create liquidity for existing shareholders, including founders, early investors, and employees with stock options. It offers an exit strategy for initial investors looking to monetize their stakes.
|Publicly traded shares can be bought or sold easily on the stock market, providing investors with liquidity and flexibility in managing their investments.
|Publicly traded companies can use stock options and Employee Stock Ownership Plans (ESOPs) as incentives for employees, fostering loyalty and aligning their interests with the company’s success.
|Employees may benefit from stock options, profit-sharing, or other perks, creating a sense of ownership and shared success.
|Publicly traded companies can use their shares as a form of currency for mergers and acquisitions. This can facilitate strategic partnerships and growth through acquisitions.
|In case of acquisitions, investors may receive shares or cash, providing additional opportunities for returns.
|Enhance Corporate Governance
|Going public subjects a company to stricter regulatory and financial reporting standards, fostering improved corporate governance and transparency.
|Investors benefit from increased transparency, reducing the information asymmetry between the company and its shareholders.
Thus, an Initial Public Offering (IPO) holds substantial significance for both companies and investors.
In essence, an IPO is a transformative event that not only injects capital into a company but also shapes its public identity and influences the dynamics of the financial markets. It is a pivotal moment that opens new avenues for growth, collaboration, and wealth creation.
(C) Types of IPO
There are three main types of IPOs-
|Types of IPOs
|Fixed Price IPO
|Company sets a specific price for shares, known to investors from the start.
|Book Building IPO
|Investors determine share price through a bidding process, fostering market-driven pricing.
|Dutch Auction IPO
|Investors bid for shares by specifying desired quantity and price, with shares allocated to highest bids.
These variations offer companies flexibility and investors diverse approaches when entering the stock market. Let’s explore them further-
(C.1) Fixed Price IPO
Here a company decides on a specific price for its shares even before opening the doors for investors. It’s like having a set menu – everyone knows the cost of the dish they’re ordering. The process goes like this-
- The company sets a fixed price for its shares before the bidding process.
- Investors subscribe to the IPO at the predetermined fixed price per share.
- The price remains constant throughout the IPO process.
(C.2) Book Building IPO
Now, picture a more dynamic setup. The company provides a price range, and investors get to influence the final price through their bids. It’s like an auction where your bid can impact the overall price of the product.
It involves the following-
- The company does not fix the IPO price initially; instead, it has a price range (floor and cap prices).
- Investors bid for shares within this price range, indicating the quantity and price they are willing to pay.
- The final issue price is determined based on the demand generated during the bidding period.
(C.3) Dutch Auction IPO
In this case, think of it as a unique bidding experience. Investors state both the number of shares they want and the price they’re willing to pay. The shares are then distributed starting from the highest bidder, creating a fair and transparent process.
Its key process includes-
- Investors place bids specifying the number of shares desired and the price they are willing to pay.
- The shares are then allocated to bidders starting from the highest price until the entire offering is sold.
- All winning bidders pay the same price per share, known as the “clearing price.”
(D) Drawbacks of IPO
|IPOs involve significant expenses, including underwriting fees, legal fees, and accounting fees. High costs can impact the company’s finances.
|The IPO process is subject to intense regulatory scrutiny, leading to delays and increased compliance costs.
|Newly listed companies may experience high stock price volatility, influenced by market sentiment and speculation.
|IPO investors may have limited historical performance data, making investment decisions more speculative.
|The issuance of new shares to the public often results in dilution of ownership for existing shareholders.
|Timing an IPO with favorable market conditions can be challenging, and external factors may impact the timing of the offering.
It’s important for companies considering an IPO to carefully evaluate these drawbacks and assess whether the benefits outweigh the challenges. Each IPO is unique, and potential issuers should navigate these aspects based on their specific circumstances and market conditions.
Note: Do you know what happened to Indian Startup IPOs in 2023? They faced a massive roadblock! Visit the article for detailed information.
(E) What is FPO?
In the stock market journey, you’ll come across Follow-on Public Offerings (FPOs). Now, let’s break it down.
Follow-on Public Offering (FPO) is a financial process where a company, already listed on a stock exchange, issues additional shares to the public or existing shareholders to raise funds or achieve specific financial objectives.
In other words, an FPO happens when a company, already on the stock exchange, decides to issue more shares. It’s like a sequel to the Initial Public Offering (IPO) saga.
Let me explain it with an example-
Imagine Company XYZ, which went public through an IPO a few years ago, is now looking to expand its operations. So obviously, it needs more funds. But here the plot twists. Instead of taking on loans, XYZ decided to issue more shares to the public through an FPO.
In this scenario, the objective for XYZ is to raise additional capital for expansion without incurring debt.
In FPO, if XYZ issues new shares to the public, it’s a Dilutive FPO, potentially affecting earnings per share. Alternatively, if existing shareholders like founders or board members sell their shares to the public, it’s a non-dilutive FPO. We will explain this concept in detail in the upcoming sections.
This process allows Company XYZ to grow and investors to participate in its continued development. FPOs offer flexibility for companies to meet financial needs after their initial entry into the stock market.
So, you, as an investor, get a chance to be part of XYZ’s growth story, and the company secures the funds it needs. That’s the FPO game – the sequel that keeps the financial plot rolling.
(F) Significance of FPO
A follow-on public offering (FPO) plays a significant role in the financial landscape, offering both companies and investors’ unique advantages-
|Capital Boost Post-IPO
|FPOs enable companies already listed on stock exchanges to raise additional capital for various purposes, including expansion plans or debt reduction, after their Initial Public Offering (IPO).
|Investors can participate in the further growth of a company they may have already observed since its IPO, providing an opportunity for continued investment.
|Debt Reduction & Expansion
|FPOs serve as a means to reduce existing debt or fund expansion projects. Companies can strategically manage their capital structure and strengthen their financial position.
|Knowing that FPOs can be used to reduce debt or fuel expansion, investors gain insights into the company’s financial strategy and stability.
|Investor Confidence through History
|FPOs occur after a company has a track record post-IPO, providing a clearer picture of its performance and management decisions.
|Investing in an FPO involves a more informed decision, as investors have historical data on the company’s market behavior and financial health.
|Strategic and Less Time Consuming
|FPOs can be initiated more swiftly than IPOs since the company is already listed. It offers a less time-consuming option for raising additional funds.
|The process is more streamlined, and investors can quickly evaluate the company’s performance after the IPO, making it a relatively straightforward investment decision.
Thus, FPOs represent a strategic move for companies to further strengthen their financial position while providing investors with a familiar ground for investment decisions based on the company’s established market presence.
(G) Types of FPO
There are mainly two types of FPOs namely dilutive and non-dilutive. Companies choose between dilutive and non-dilutive FPOs based on their specific financial needs and strategic goals. Investors can analyze these scenarios to understand the company’s intentions and make informed investment decisions.
The two types of FPOs are described in the following table-
|Types of FPO
|Effect on Share Value
|Raise additional capital for the company.
|Value of the company remains stable, but earnings per share may decline.
|Allow major shareholders to sell privately held shares.
|Share capital and number of shares remain the same, no impact on EPS
Now, let’s dive into the details-
(G.1) Dilutive FPO
- Objective: In a dilutive FPO, the company issues an additional number of shares to the public to raise capital.
- Effect on Share Value: Although new capital is infused, the value of the company remains relatively unchanged. However, the earnings per share (EPS) may decline as the new shares dilute the ownership.
(G.2) Non-Dilutive FPO
- Objective: In a non-dilutive FPO, existing major shareholders, such as founders, directors, or institutional investors, sell their privately held shares in the market.
- Effect on Share Value: The company’s share capital doesn’t increase, and the number of shares remains the same. This method increases the number of shares available for the public without impacting the company’s EPS.
Are you still wondering how it works? Don’t worry! I will explain it with the help of a simple example.
Let’s consider a fictional company, XYZ Corp., which went public through an IPO a few years ago. Now, XYZ Corp. plans to raise additional funds to support a major expansion project.
- Dilutive FPO Scenario: XYZ Corp. decides to issue 1 million new shares at the current market price. Investors buy these new shares, providing the company with fresh capital for its expansion. The value of the company remains stable, but the earnings per share decrease slightly due to the increased share count.
- Non-Dilutive FPO Scenario: Instead, XYZ Corp.’s founders, who own a significant portion of shares, opt for a non-dilutive FPO. They sell a portion of their existing shares to the public. This doesn’t impact the company’s EPS, as it doesn’t involve the issuance of new shares. The founders receive funds from the sale of their shares, providing liquidity to existing shareholders.
Thus, these two types of FPOs cater to different strategic objectives for companies. Dilutive FPOs are focused on raising additional capital, while non-dilutive FPOs allow major shareholders to monetize their holdings without altering the company’s overall share structure.
(H) Drawbacks of FPO
|FPOs can be influenced by prevailing market conditions, impacting the pricing and success of the offering.
|The market-driven pricing in FPOs may sometimes result in undervaluation of shares, affecting returns for existing shareholders.
|Limited Fresh Capital
|In non-dilutive FPOs, where existing shareholders sell their shares, the company doesn’t raise fresh capital, limiting funds for expansion.
|Dilutive FPOs can lead to dilution of ownership for existing shareholders, potentially reducing their control over the company.
|FPOs may be perceived differently by investors, and the success of the offering can depend on the company’s post-IPO performance.
|Similar to IPOs, FPOs may face timing challenges in aligning with favorable market conditions.
Companies considering an FPO should carefully weigh these drawbacks against the benefits, taking into account their financial objectives, market conditions, and shareholder considerations.
(I) IPO vs FPO: 6 Key Differences
Here comes the main part of the article i.e. IPO vs FPO. Let’s look at it-
|IPO (Initial Public Offering)
|FPO (Follow-on Public Offering)
|Raises capital for the company by issuing shares to the public
|Raises additional capital or reduces debt after IPO
|Status of the Company
|Company is unlisted before the IPO
|Company is already listed on the stock exchange
|Considered riskier as there is limited historical data
|Comparatively less risky, as past performance is available
|Fixed or variable pricing determined by the company
|Market-driven pricing, influenced by demand and supply
|Increases due to the issuance of fresh capital
|Remains the same in Non-Dilutive FPO, increases in Dilutive FPO
|Time & Complexity
|Time-consuming with regulatory and legal requirements.
|Generally less time-consuming, as the company is already listed
These differences highlight the distinct characteristics and purposes of IPOs and FPOs, aiding investors in making informed decisions based on their risk tolerance and investment goals.
(J) Some Other Differences: IPO vs FPO
Here are some other differential aspects of IPO and FPO-
|IPO (Initial Public Offering)
|FPO (Follow-on Public Offering)
|Underwriting & Documentation
|Involves underwriting, where investment banks buy and resell shares.
|Generally does not involve underwriting, as IPO steps are already completed.
|Investors have limited guidance or track record about the company
|Investors have knowledge about the company’s past performance
|Can offer higher returns, but riskier as it involves the initial growth
|Tends to be less profitable, as the company is often in the stabilization phase
|Investors often rely on preliminary documents like the red herring prospectus
|Investors have access to essential information about the company
|Investors make assumptions based on management debt, market interest, etc.
|Investors analyze the company’s past performance for better decision-making
|Involves the starting growth phase of the company
|This often occurs when the company is in the stabilization phase
These additional differences provide a comprehensive overview of the distinctions between IPOs and FPOs, aiding investors in understanding the nuances associated with each type of public offering.
(K) Which one is better- IPO vs FPO?
Now, here comes the million-dollar question- which one should you go for IPO or FPO? Well, it depends on various factors. The following tables can help you decide which one is better!
(K.1) When should you choose an IPO?
|Factors Favoring IPO
|If you have a high-risk tolerance and are comfortable with uncertainties, an IPO allows you to invest in a company during its early stages.
|Long-Term Investment Horizon
|If you’re looking for long-term capital appreciation and are willing to hold onto your investments through the company’s growth phases, an IPO might be suitable.
|Belief in Company’s Potential
|If you believe in the growth potential of a recently established company and are enthusiastic about being part of its initial journey, an IPO aligns with such sentiments.
(K.2) When should you choose FPO?
|Factors Favoring FPO
|Stability & Track Record
|If you prefer a more stable investment with a track record, an FPO could be a better choice. FPOs occur after a company has been listed for some time, providing historical performance data.
|Lower Risk Tolerance
|If you have a lower risk tolerance and prioritize minimizing uncertainties in your investment, FPOs are generally considered less risky compared to IPOs.
|Informed Decision Making
|If you value being informed about a company’s past performance, financials, and market behavior before investing, FPOs provide a more comprehensive basis for decision-making.
In summary, choose an IPO if you’re comfortable with higher risks, have a long-term perspective, and believe in the potential of a new company. Opt for an FPO if you prefer stability, have a lower risk tolerance, and want the advantage of historical performance data for analysis.
Always conduct thorough research and, if needed, seek advice from financial professionals before making investment decisions.
(L) Wrapping Up: IPO vs FPO
As you step into the world of investing, think of IPOs and FPOs like different chapters in a financial story. IPOs are like a company’s grand entrance into the stock market, while FPOs are the sequel, building on what’s already there.
Knowing the types, risks, and perks of each helps you pick the right financial adventure. If you’re up for a thrilling ride with potential big wins, IPOs might be your go-to.
On the other hand, if you prefer a steadier journey with a bit less excitement, FPOs could be your choice.
Understand the contrasts, consider your goals, and embark on your investment journey wisely!