IS GOING PUBLIC A GOOD OPTION FOR START-UPS?
Every entrepreneur wants to see their start-up succeed, but the success can send the entrepreneur to one or different direction. When entrepreneur want their small company grow into one that is larger and better able to serve more consumers, they often choose to go public through IPO. In India not only Indian Tech start-ups are going public but almost every start-up is getting in the waiting list to go public.
What is an IPO?
IPO stands for Initial Public offering. In an IPO, a privately owned company lists its shares on a stock exchange, making them available for purchase by the general public. The company seek IPO either to raise money for their financial needs or trying to expand or just paying its debts.
IPO Risk that start-ups need to consider.
In order to go public, start-ups are also required to focus on Pre IPO imperatives. It does not only involve operational and financial risk but also involves regulatory risk, legal risk, code of conduct risk, risk around communication and investor relationship, and climate and reputational risk.
Furthermore, when a company takes IPO routes, there are chances that it gets exposed to risks such as dissatisfied shareholders, confidentiality and trade secret concerns, insider trading by the directors, new stakeholders constantly judging the company’s performance, among others.
While subscribing to IPO, investors decision is based on Draft Red Herring Prospectus presented by the company. In case if there is any misleading statement present in draft red herring prospectus, or even a promise which later become difficult to attain can lead to various challenges. The Zomato’s draft red herring prospectus showed that its delivery cost per order came down to Rs 45 in the first nine months of FY20 from Rs 65 in FY19. But to sustain this improvement won’t be easy as its gains volume.
Process of getting an IPO
- The company goes through underwriting where investment bankers raise capital from investors on behalf of corporation
- Preparation of registration statement along with the draft prospectus known as Red Herring Prospectus which involves definition, risk factors, use of proceeds, industry description, business description, management, financial description, and legal and other information.
- The market regulator SEBI hen verifies the document.
- Make Application to the Stock Exchange for floating its initial issue
- Before an IPO opens to the public, the company endeavours to create a buzz in the market by roadshows. Over a period of two weeks, the executives and staff of the company will advertise the impending IPO across the country.
- The company can now initiate pricing of IPO either through Fixed Price IPO or by Book Binding Offering. In the case of Fixed Price Offering, the price of the company’s stocks is announced in advance. In the event of Book Binding Offering, a price range of 20% is announced, following which investors can place their bids within the price bracket.
- Once the IPO price is finalised, the company along with the underwriters will determine the number of shares to be allotted to each investor.
The Securities and Exchange Board of India (SEBI) has relaxed a number of norms to make it easier for start-ups to get listed on Indian exchanges. Earlier this year, SEBI reduced the time that early-stage investors need to hold 25 per cent of the pre-issue capital to one years from two years earlier. SEBI also amended regulations which previously barred start-ups that are going public from making discretionary allotments to allow start-ups to allocate up to 60% of the issue size of the IPO to an eligible investor subject to a lock-in period of 30 days on such shares.
- Fund Raising
The main reason for start-ups to file an IPO is the fund raising. The Nykaa debut price was at a 79.4 per cent premium to the initial public offering (IPO) price of ₹ 1,125, giving the company a valuation of ₹ 95,437 crore.
- Publicity and Credibility
When a company go public, it not only receives a great deal of attention but also receive credibility. An IPO provides exposure to the public to come into spotlight. To complete an IPO process, the company needs to go immense scrutiny to ensure what they are reporting about themselves is correct. This scrutiny, combined with many individuals’ tendencies to trust public companies more, can lead to increased credibility for a company and its products.
- Exit Opportunity
An initial public offering is a significant exit opportunity for stakeholders, whereby they can potentially receive massive amounts of money, or, at the very least, liquefy the capital they currently have tied up in the company.
- Reduce overall cost of capital
In order to raise capital in business, companies often have to pay higher interest rates to receive loans from banks or give up ownership to receive funds from investors. However, IPO lessen the difficulty of receiving additional capital significantly.
- Stock as a means of payment.
Choosing to go public also allows the use of publicly traded stock as a means of payment. While a private company has the ability to use its stock as a form of payment, but it is only valuable if a favourable exit opportunity arises. However, on the other hand, public stock is essentially a form of currency that can be bought and sold at a market price at any moment.
- Additional Regulatory Requirements and Disclosures
Public companies are required to file their financial statements every year which can be burdensome and costly since audit committee and various other committee are also required.
- Market Pressure
Founders tend to have a long-term view, with a vision of what their company will look like years from the present and how it will impact the world. The stock market, on the other hand, has a very short-term, profit-driven view.
- Potential Loss of Control
There is a chance that founder may lose control of his/her company. Going public means receiving considerable amounts of money from public shareholders. Since shareholders are the ultimate owner of the company, the company has to act in the best interest of the shareholder even it is contrary to the interest of the founder. If shareholders feel the company is not operating in a way that will help them make money, they will force the company through shareholder votes to appoint new leadership.
- Transaction Cost
The IPO transaction process comes at a hefty cost. The largest cost of a public offering is underwriter fees.
List of IPO bound start-ups
There are numerous examples of start-ups that came up with IPO such as Zomato, BYJU’S, Delhivery, LIC, Policy Bazaar, Freshworks, Pepperfry, Flipkart, Nykaa, Bajaj Energy.
Amid the rush over companies coming up with an IPO, Leading Private health insurer Star Health and Allied Insurance IPO will also be open up.
Option of Direct Listing
Many tech companies are opting for direct listing rather than going through an IPO. A direct listing is a liquidity event that does not fill the company’s pocket with cash. In the direct listing instead of company itself, company’s stockholder sells existing shares directly to the public. Instead of an underwriter who determines the price as with an IPO, in a direct listing the company hires a financial advisor who works in conjunction with the stock exchange to establish the opening price, based on buy and sell orders.
A direct listing does not have a lock-up period because it is based on shareholders selling their holdings. Only outstanding shares held by existing investors, promoters and any employees can be sold directly to the public. In other words, a direct listing allows the transfer of ownership from the company’s private investors to public investors, without raising new capital.
Direct Listing in India
Direct Listing is a process through which a company which is already listed on other stock exchange/s approaches BSE for listing of its equity shares. The companies fulfilling the eligibility criteria prescribed by the Exchange; from time to time; are listed on the Exchange.
Presently at BSE, Direct Listing is broadly divided into three categories
- Companies which are listed with Nationwide Stock Exchange with average daily turnover greater than Rs 500 crores in equity segment
- Companies which are listed with Recognised Stock Exchanges with average daily turnover less than Rs 500 crores in equity segment
- Companies whose names are appearing on Dissemination Board of Nationwide Stock Exchanges
Benefits of direct listing.
- No lock up period
- Offers liquidity to existing shareholder by which they can sell their shares freely
- Absence of underwriting process that makes it less costly than that for an IPO
- Avoid the indirect cost of selling shares at a discount
- Stock price is based on market demand.
- Increased visibility
- Access to vast network of BSE Trading Members
Why some companies opt for direct listing
Companies who opt for direct listing are not necessarily looking for capital. Instead, they aspire for other benefits stemming from being a publicly traded company including boosting liquidity for their existing stockholders.
Companies also opt direct listing for the purpose of avoiding the promotional costs of an IPO. In addition, the direct listing is much quicker process and entails lighter regulatory scrutiny. By going this route, the founders are able to implement more restriction on voting power without the requirement rigorous IPO process.
Companies best suited for direct listing
Companies which are consumer facing with strong brand presence having a business model that is easily understandable and do not need great amount of capital are the only companies best suitable for direct listing.
For example, Slack and Spotify, which went public through direct listing in 2019 and 2018, respectively, enjoyed solid reputations in the market beforehand. Both were broadly used, and the way they made money was easy to comprehend. These factors jointly increased the number of people interested in investing in the companies.
Challenges faced by FinTech firms when sets for an IPO
The year 2021 has brought an opportune for fintech firms to set for an IPO. However, this IPO bound start-ups faced unique challenges in terms of building public confidence into respective model, diluting foreign ownership and working under tighter scrutiny by multiple financial regulators. Moreover, After Government’s fresh FDI rules last year post Indo-Sino border skirmish, the Indian Fintech with Chinese funding will face hardship in raising private capital.
In the emerging market, Indian start-up sector has seen a flurry of IPOs in 2021. A key reason for Indian firms going for IPOs is the perception of a large appetite for investment in India’s firms among global institutional investors. However, IPO may or may not be the right direction for your company. IPO come up with the host of advantages and disadvantages. This paper only provides description of IPO bound start up and its alternative and solely for the purpose of spreading awareness. Readers are requested to consult their lawyers or can also connect to @https://dastawezz.com/
Vn n v useful article for startup companies