The IPO Series: What is an IPO on a Share Market and How Does it All Work?

In this first post of the IPO Series we will go through the basics of what an IPO is and how it all works. Why should a company go public?

What is an IPO?

IPO stands for initial public offering, the process by which a company first lists on a stock exchange, becoming a public listed company. The company offers, for the first time, shares of its equity to the investing public. These shares subsequently trade on a public share market, like the NZX in New Zealand, and on larger markets such as the ASX in Australia and the New York Stock Exchange.

What’s the origin of IPOs?

The origin of the concept dates back to 1602, when the Dutch East India Company sold shares on its own Amsterdam Stock Exchange, which is the first stock market, becoming the first publicity traded company, the first one to issue stock to the public, representing an opportunity for the general public to own shares in a company.

Why do companies decide to go public?

The first question you may ask is why a company would want to go public. Many private companies succeed remarkably well as privately owned enterprises. Some of the most well know businesses in the world such as Dell Computers and Mars Confectionery are privately held. Firms have to weigh up the benefits and drawbacks of a public listing before deciding to undertake an IPO.

What are the pitfalls?

The IPO process is a costly, and time-consuming procedure due to the many parties involved including legal and financial advisors. In addition to the costs of the IPO, there are ongoing costs of maintaining a listing such as NZX annual fees, which can be over $60,000, as well as the increased costs of meeting the higher compliance and disclosure requirements.

The IPO procedure itself is highly distracting for the management of the company, which can’t be completely focused on the ongoing running of the business. Being public can also limit the management freedom to act, as the board and shareholder require approval on many major matters, and are heavily influenced by shareholders pressure and market sentiment.

So, how does it all work?

A number of advisors are chosen by the listing company and then processes of due diligence and marketing are carried out before the final listing occurs. An investment bank typically manages the IPO process, providing a valuation of the company and drumming up interest in the offering. Legal advisors manage the due diligence, verify the offer documents and oversee the regulatory compliance processes. On completion of the due diligence and marketing phases, the placement and final pricing of the shares occurs, which results in a new security trading in the market.

Next up in our IPO Series, we’ll outline the main differences between IPOs and equity crowdfunding. Catch you next time.

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