An IPO prospectus is like a detailed guide that tells you everything about a company's financial health and the investment it is offering. It is crucial to help you decide whether or not to invest in the company.
The prospectus has key information about the company's past, its finances, and the investment's risks. Knowing how to read this document is crucial whether you are interested in stocks, mutual funds, or IPOs. This article will help you understand what an IPO prospectus is, why it is important, and how to read it well. Let us explore the IPO prospectus’s meaning.
What is a prospectus?
So, what is IPO prospectus? It is a formal document mandated by the Securities and Exchange Board of India (SEBI) for a company to go public.
This simply means it’s about a privately held company’s intention to go public through an initial public offering (IPO). The content, which may run into hundreds of pages, includes detailed information about various aspects of the firm meant for possible investors.
Understanding prospectus
In simpler terms, a prospectus is a company's booklet explaining details about itself before selling its shares. It helps you understand what the company does and how it makes money.
IPO prospectus types
There are different types of IPO prospectus on the basis of the IPO stages:
1. Draft Red Herring Prospectus (DRHP)
DRHP is the preliminary prospectus the issuing company submits to begin the IPO process. The lead manager creates this document and submits it to SEBI for IPO approval. It contains company details, information on its promoters, IPO specifics, and risks.
Validity: This preliminary document is valid for a period of 12 months from the filing date. However, companies often file an updated DRHP closer to the IPO launch if any significant changes occur.
Filling process:
- Companies file the DRHP with the Securities and Exchange Board of India (SEBI) for review and approval.
- It outlines the company's financial health, business model, future plans, risk factors, and management team.
- This document is crucial for potential investors to conduct due diligence before investing in the IPO.
2. Red Herring Prospectus (RHP)
The red herring prospectus has additional information concerning IPO dates, prices, and the latest financial statement exceeding DRHP. This is the improved version of DRHP and is issued in the event of book-building issues.
Enhanced information: This final prospectus builds upon the DRHP, incorporating any updates or changes made after SEBI's review.
Price information: Unlike the DRHP, the RHP includes the final IPO price and other relevant details, allowing investors to make informed decisions about bidding on the shares.
3. IPO Final Prospectus
This is the final prospectus containing all the relevant information, including the final issue price, the total number of shares the company offers, and the size of the net offering.
Information in the final prospectus together with all other information:
- Final issue price
- The total number of shares offered
4. Abridged Prospectus
An abridged prospectus is a miniature version of the offering document. It is typically issued with the application form, and this document contains a summary of the offer document.
Before investing in an IPO, investors should read the RHP documents to learn about the company's current status, future plans, and public offer details about investment risks. The documents also include information about the promoter’s background and the company's business so that investors can decide whether to invest.
An IPO prospectus does not amount to an agreement for a public issue but serves as an invitation to the general public to subscribe for shares. Also, understanding the IPO listing time is crucial as it indicates when the shares will start trading on the stock exchange after the public offering.
IPO prospectus example
Life Insurance Corporation’s (LIC) initial public offer was the largest in the history of India’s stock market. IPO is the process through which a new stock owned by a company is sold to the public for investment purposes. To determine whether one should invest in an IPO, it is advisable to start by reading the draft red herring prospectus (DRHP).
It helps investors decide if the company’s shares are worth risking capital on and its prospects. For instance, it has details about the firm’s financials, operations, use of proceeds from an IPO, risks involved, management, and business summary.
On 13th February 2022, LIC filed a 652-page draft red herring prospectus with SEBI for its IPO. It planned to raise approximately Rs. 63,000 crore by selling a 5% stake through an offer for sale of 31.60 crore equity shares to the public.
Besides information about LIC’s public issue, the DRHP had many essential disclosures, such as LIC’s embedded value of Rs. 5,38,000 crore as of September 30th, 2021; assets under management (AUM) of Rs. 39,55,000 crore; the number of individual agents in commission and their commissions paid; deteriorating cash flow and increasing operating expenses; market share and dividend payouts, among others.
In April, the corporation filed an updated Draft Red Herring Prospectus. This draft revised the percentage of stake sold to the public from 5% to 3.5% for a valuation of Rs. 21,000 crore. The red herring prospectus was filed on 26th May 2022 with SEBI, along with an abridged prospectus containing the salient features of the former.
The IPO was launched on May 4th, 2022, and it closed on May 9th, 2022. The IPO price was Rs. 902-949 per share, offering discounts to policyholders, retail investors, and employees.
IPO prospectus requirements
The IPO prospectus serves as a legal document offering a transparent window into the company's operations and future plans. To ensure investor protection and informed decision-making, SEBI (Securities and Exchange Board of India) mandates specific requirements for IPO prospectuses. These requirements typically include:
- Company background and business overview: A detailed description of the company's history, business model, products or services, and competitive landscape.
- Financial information: Audited financial statements for the past few years, along with projections for future performance.
- Management team: Information on the company's management, including their experience, qualifications, and compensation structure.
- Use of proceeds: A clear explanation of how the company plans to utilize the funds raised through the IPO.
- Risk factors: A comprehensive discussion of the potential risks associated with investing in the company's shares.
- Regulatory and statutory disclosures: Compliance with all relevant Indian laws and regulations related to public offerings.
By adhering to these requirements, the IPO prospectus ensures transparency and allows investors to make well-informed investment decisions based on a thorough understanding of the company and its prospects.
Why are IPO prospectus useful for investors?
An IPO prospectus is a critical document when the company plans to go public, especially in the case of an SME IPO. It presents detailed information about the SME, including its business model, financial results, management team, and future plans.
Moreover, it highlights the perils connected to investing in it. Through this transparency, potential investors can easily weigh their options before getting involved with the IPO.
In addition, it serves as a legal instrument or paperwork that safeguards both parties: the firm and the investor. Hence, investment decision-making is not complete without an IPO prospectus.
What information is normally in an IPO prospectus?
The prospectus comprises a summary of the company’s background and financial information, including the name of the business and its principal, the age of the business, management experience, and management participation in the enterprise.
Furthermore, it states the number of shares being issued, what type of securities are offered, whether it is an offering made to the public or private, and the names of underwriting banks or financial companies.
After the IPO, potential investors can check the IPO allotment status to determine how many shares they have been allocated from the issue.
What is the difference between a preliminary and a final prospectus?
The preliminary prospectus is the beginning of a security issuer’s offering document, which gives most of the business and transaction descriptions. Nevertheless, it does not include the number of shares to be issued or any information about prices. Usually, a preliminary prospectus helps in assessing market interest for the proposed security.
The final prospectus provides complete details on public investment offers. It includes any finalised background information, as well as the number of shares or certificates that will be issued and the price offered.
Conclusion
An IPO prospectus is generally a document that provides information about an offer made to the public. More often, it is a formal document that must be given to and kept by the Securities and Exchange Board of India (SEBI) and outlines an investment opportunity brought to the public.
Furthermore, investors use it to learn more about a company and its stock, similar to how employers use resumes to learn details about job seekers.
A prospectus addresses issues such as risk, financial history, management team background, value and amount of the security, whether the offering is private or public, the number of shares offered, and utilisation of investment proceeds.
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