Primary Market in India & Types of Issues
Primary markets are markets where companies or issuers seek to raise capital from outsiders by issuing securities to them in form of equity and debt.It is called the primary market because investors purchase the security directly from the issuer. It is also called the “new issue market” where securities are issued for the first time.
With the help of primary markets issuer can receive long term capital by reaching large number of investors. Investors can have a secured investment through securities since it is backed by government regulations rather than one on one agreements with promoters of company.The ability of a company to raise funds from such external sources will depend upon the performance of the company in the past and the expected performance in the future.
Securities in the primary market are available to investors through brokers and agents. Raising capital for a company may also be conducted through a syndicate of institutional investors who buy equity or debt securities through a private placement. This is also a primary market activity but the investors in these securities are a few pre-identified institutional investors.Such investors buy a huge chunk of shares initially introduced only to sell them at a later date.This opens up the secondary market where the securities can be bought and sold between investors, without impacting the capital raised and used by the business.
Key Difference between Primary Market and Secondary Market
- Securities are listed on the stock exchange after the public issue (in primary market), so they can be traded between investors who may like to buy or sell them.The stock market is also called the secondary market, because investors purchase and sell securities among themselves, without engaging with the issuer. Unlike in primary markets where investors bought securities from the issuer directly.
- Primary markets help issuers raise capital whereas secondary markets help maintain liquidity in the market by allowing existing investors trade with new investors while maintaining capital previously issues.
- The prices of stocks in the secondary market, for the issuer as well as the overall trends in the secondary market, are used as signals in pricing primary market issues.
Types of issues
- Public Issue-Securities are issued to the members of the public, and anyone eligible to invest can participate in the issue. This is primarily a retail issue of securities.
- Private placement- Securities are issued to a select set of institutional investors, who can bid and purchase the securities on offer. Securities to such investors are sold in large quantities and is primarily a wholesale issue of securities
- Preferential issue- Securities are issued to an identified set of investors, on preferential terms, along with or independent of a public issue or private placement. This may include promoters, strategic investors, employees and such specified preferential groups.
- Right and Bonus Issue- Securities issued to existing investors at specific price within specific time is called right issue. Whereas when more securities are allotted to existing investors free of cost it is bonus issue.
Meaning of Issuer – An issuer in the primary market is the entity seeking capital through the issue of securities. The securities are part of the equity or debt capital of the entity, on its balance sheet.The responsibility if meeting said obligation to investors rests with the issuer.Issuer in primary markets include, Governments, public companies, Private Companies, Banks, Non Banking Finance companies, Financial Institutions and Mutual Funds.
Types of Investors – Both retail and institutional investors participate in primary market issues. The debt markets are dominated by institutional investors; equity markets have a higher level of retail investor participation. The following are the various categories of investors who buy securities in the primary markets:
- Association of persons
- Limited Liability Partnerships (LLP)
- Financial institutions
- Foreign Portfolio Investors (FPIs)
- Hindu undivided family (HUF)
- Minors through guardians
- Non-resident Indians (NRI)
- Persons of Indian Origin (PIO)
- Registered societies and clubs
- Resident individuals
- Partnership firms
Individual investors are further categorized based on the amount invested as:
- Retail Individual Investors who invest not more than Rs. 2 lakhs in a single issue
- Non-Institutional Buyers (NIBs) who invest more than Rs. 2 lakhs in a single issue.
- Qualified Institutional Buyers (QIBs) who invest an amount of Rs 25 crores or more and are experts and financially sound. These include, financial institutions, commercial banks, mutual funds etc.
Types of Public Issue of Equity Shares
Public issue of equity shares can be categorized as follows:
- Initial Public Offer (IPO) – The first public offer of shares made by a company is called an Initial Public Offer (IPO). IPO is a method of going into the public through a stock exchange with the help of large institutional investors.This is generally done by companies in order to involve the public in fund generation, for which they are benefited with returns. The process of IPO is also known as “going public”.An IPO can be in the form of (a) fresh issue of shares by the company or it can be (b) an offer for sale to the public by any of the existing shareholders, such as the promoters or financial institutions.
- Fresh issue of shares – In case of fresh issue of shares, new shares are issued by the company to public investors. This results in an increase in issued share capital of the company.
- Offer for sale – Existing shareholders such as promoters or financial institutions offer a part of their holding to the public investors. The share capital of the company does not change since the company is not issuing new shares.
- Follow on public offer – A follow-on public offer is made by an issuer that has already made an IPO in the past and now makes a further issue of securities to the public.
Pricing a Public Issue
SEBI regulations allow an issuer to decide the price at which the shares will be allotted to investors in a public issue. This can either be fixed by the issuer in consultation with the managers of the issue or it can be determined by a process of bidding by investors. Based on the method used to determine the price, a public issue can be categorized as:
- Fixed price issue-In a fixed price issue of shares to the public, the company in consultation with the lead manager would decide on the price at which the shares will be issued. Here the investors know well in advance about the share price that the company is offering.The company decides the price based on the expected performance of the company and consequent increase in the share price.
- Book Building issue-The objective of a book building process is to identify the price that the market is willing to pay for the securities being issued by the company.Thus unlike fixed price issue the price of book building issue is decided by investors in the market and not the company. To be precise, a price range known as price band of equity shares is declared by the company. Interested investors can bid within the price band and the prices must be above the floor price i.e the lowest price mentioned in price band. Once the bids are received from investors to issuing company, it is evaluated and the best price according to demand of investors , falling within price band is selected. This price is then called the cut-off price.All investors who bid at , or above the cutoff price are successful bidders and are eligible for allotment of shares.
The prospectus is a document, which contains all the information about the company which is useful to an investor to make an investment in a fixed price public issue of shares. The content and format of the prospectus is prescribed by SEBI and the Companies Act. The prospectus shall have the following information:
- Details of the issuer including information on the company, promoters, board of directors,
- key employees, industry and business overview.
- Objective of the public issue.
- Details of the issue such as opening and closing dates, information on the lead manager,
- RTA and bankers to the issue, listing details.
- Terms of the public issue including details of the shares offered, method of offering,
- procedure for application, biding details in case of a book built offer, allotment and refund
- Financial statements, capital structure and accounting policies of the company.
- Regulatory and statutory disclosure to provide all information of interest to a shareholder.
- Risk factors specific to the company and industry and generic to the type of issue.
- A company making a public issue of shares files a draft prospectus with SEBI through the lead manager of the issue. SEBI may require clarifications or changes to be made to the draft
Red herring prospectus – This is a type of Draft prospectus when a company decides to go public through the book building procedure. Hence this document does not contain in depth information but only information such as floor price and price band etc. It covers information of nature of business, its activities , financial details etc. This must be approved by SEBI and published. Investors can read this draft prospectus and bid accordingly. Once Cut-off price is decided , the actual and Final prospectus gets updated with share price, number of shares, issue size etc.
Applying to a Public Issue
- The prospectus issued to public lays down the process of applying to a public issue of securities.
- It is usually published in leading newspapers and is also available at the SEBI website.
- Public issue is open for subscription for a short period and investors must apply for shares in period specified. The application forms are available with brokers and banks that are appointed by issuing company.
- The NSE and the BSE provide an online bidding system for the booking building process for IPOs. It is a screen based system in which investors enter the bids through the trading terminals of broker-members.This segment is called the IPO market and is operated from 10 a.m. to 5 p.m. during the IPO period.
- The price band is announced at least 5 days before the issue opens. This enables the investors to evaluate the issue and decide the price that they are willing to bid for. Investors that bid above the cutoff price are allotted shares.Investors who bid a price and later wish to revise/modify their bid can do so by using the revision form attached to the application form or by using the online modification facility.
- Once all bids are evaluated by the company, based on cutoff price shares are allotted to investors. In case of over subscriptions (i.e applications are more than issuing shares available), the company allots shares to investors on proportionate basis.
- Payment for applications made in a public issue must be made through a local cheque, draft or using the ASBA (application supported by blocked amount) facility. ASBA is an application for subscription to an issue containing an authorization to the investors’ bank to block the application money in the bank account and releasing the funds only on allotment.
Basis of allotment of shares
Basis of allotment is the process of deciding the number of shares that each investor is entitled to be allotted. If the number of shares that have been subscribed /applied for is “equal to or less” than the number of shares offered by the company, then each investor will get the same number of shares he applied for. If the number of shares applied for happens to be more than the number of shares offered by the company, then investors are allowed shares on a proportionate basis. Eg: A company issued 60,000 shares, receives applications for 2,40,000 shares and makes proportionate allotment.Since applications received exceed the limit of applications issued, company cannot allot all shares but will distribute in a specific way. Thus applicants/investors have been allotted 25% of the shares applied. (number of application issued / number of application actually received)
i.e 60000/240000* 100= 25%. In other words, applicants for 100 shares must have been allotted 25 shares; for 500 shares must have been allotted 125 shares and for 1,000 shares, 250 shares would have been allotted.
Listing of shares
A company making a public issue of shares has to arrange for the shares to be listed on a stock exchange after allotment. To get the shares listed, the company has to enter into a listing agreement with the stock exchange, pay listing fees and agree to abide by the rules regarding notification and disclosure of price sensitive information, investor services and corporate governance, among others.The shares listed can then be traded by the investors with the help of trading mechanism provided by stock exchange.
|Company name||Issue price (in Rs)||Current price (in Rs)||Gain/loss|
Rights issue of shares
When company wishes to raise additional fund by way of additional equity shares it offers extra equity shares to its existing equity shareholders.These shares are offered to shareholders on basis of the number of their existing shareholding. The board of directors of the company decide a specific ratio for issue of rights. For e.g.; if the ratio decided is 2:1, it means investor receives 2 shares as rights for every 1 share it holds in the company. If an investor holds 100 shares he will be issued a rights share of 200 which will increase his total shareholding to 300. The prices of rights shares are generally below the market price hence the shareholders can benefit by paying less than the market for each share.