How to Buy IPOs: A Step-by-Step Explanation
Unlock the essentials of investing in initial public offerings. This guide demystifies the entire process, from readiness to successful share acquisition.
An Initial Public Offering (IPO) marks a significant event where a private company offers its shares to the public for the first time. This allows the company to raise substantial capital for growth, debt repayment, or other corporate initiatives. For investors, an IPO presents a chance to acquire shares at its initial offering price.
Participating in an IPO allows investors to gain early exposure to a company. This initial sale occurs in the primary market, distinct from the secondary market where shares trade after the IPO.
Preparing to Buy IPOs
Before purchasing shares in an IPO, individuals must take preparatory steps to identify opportunities and ensure eligibility. Information about upcoming IPOs is available through financial news sources, specialized IPO calendars, and major stock exchange websites like Nasdaq and the New York Stock Exchange. Many brokerage platforms also list forthcoming offerings. Not all brokerage firms provide IPO access, as it depends on their relationships with investment banks that underwrite these offerings.
To participate in an IPO, investors need a brokerage account that meets specific firm criteria. Some firms may require clients to maintain certain household asset levels or qualify as premium clients. Eligibility often involves answering qualifying questions to comply with Financial Industry Regulatory Authority (FINRA) rules, which restrict certain financial industry professionals from participating.
Thorough research and due diligence are important before pursuing an IPO investment. Investors should carefully review the company’s preliminary prospectus, often called a “red herring,” which provides detailed information about the business model, financial performance, and potential risks. Understanding the company’s industry, competitive landscape, and management team’s experience helps assess its long-term viability.
The IPO Purchase Steps
Once an investor identifies an IPO opportunity and confirms eligibility, the next phase involves submitting an order. The first action is typically placing an Indication of Interest (IOI). An IOI is a non-binding expression of an investor’s desire to purchase shares. This indication is communicated through the brokerage platform and helps underwriters gauge market demand before finalizing the IPO price.
Following IOI submission, investors receive the preliminary prospectus for review. This document, filed with the Securities and Exchange Commission (SEC), contains disclosures about the company’s business, financial condition, management, and associated risks.
After reviewing the preliminary prospectus and deciding to proceed, the investor can submit a formal, conditional offer for a specific number of IPO shares within the indicated price range. This offer is conditional because the final IPO price and allocation are not yet determined. Investors must ensure sufficient funds are available in their brokerage account to cover the cost of the shares requested. The brokerage firm will confirm receipt of the conditional order.
The timeline for these steps can vary, but the period for submitting indications of interest and conditional offers precedes the final pricing and launch of the IPO. Lead underwriters determine the final IPO pricing, often based on gathered indications of interest.
Understanding IPO Share Allocation
After investors submit conditional offers, the process moves to the share allocation phase. Placing an order does not guarantee receiving shares, especially for highly anticipated IPOs where demand significantly exceeds supply. In such oversubscribed scenarios, investors often receive fewer shares than requested, or none at all.
Several factors influence how IPO shares are allocated. Demand plays a significant role; if an offering is heavily oversubscribed, retail investors participate in a lottery system for equitable distribution. Brokerage firms have their own criteria, prioritizing customers based on factors like account size, revenue generated, or length of relationship. Institutional investors, such as large funds, receive the majority of IPO allocations, with a smaller percentage reserved for retail investors.
Once allocation is determined, investors are notified of their share allocation status via email, SMS, or by checking the registrar’s or stock exchange’s website. This notification confirms if shares were allocated and at what final IPO price. If shares are allocated, they are credited to the investor’s Demat (dematerialized) account within a few business days after the IPO subscription window closes. For applicants who did not receive shares or received fewer than requested, any unutilized funds are refunded to their linked bank accounts.