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What is an IPO, and how can you invest?
A direct way to invest in newly-listed companies on the stock exchange.
An initial public offering (IPO) is the process in which a company goes from private to publicly traded on a stock exchange. This event gives large institutions and everyday investors alike the chance to invest in the company. But until recently, it was tricky to invest in IPOs. Let’s take a look at how you can get in on the ground floor of an IPO.
5 steps to invest in an IPO
Investing in an IPO at its offer price used to be almost impossible for everyday investors. Luckily, with platforms such as Robinhood and SoFi Invest things are starting to change.
Depending on which trading platform you go with, the process may differ slightly. But in general here’s how it works:
- Open an account by providing your personal information.
- Fund your account.
- Find an IPO you want to invest in or browse our IPO calendar for upcoming IPOs.
- Submit the number of shares of the IPO stock you want to buy and the price at which you want to buy them.
- Confirm your order before the IPO.
Note: Robinhood and SoFi Invest don’t guarantee that your order will be filled.
Why do companies conduct IPOs?
Simply put, private companies hold IPOs to raise money. Otherwise, the company would need to source private funding, which can come from other companies, investment managers or high-net worth individuals.
However, companies also choose to hold IPOs in order to to maintain control of the company, something they may have to give up if they resort to private funding.
A few other reasons companies raise money include:
- Help the business expand into different markets.
- Offer more favorable credit-borrowing terms.
- Launch new products.
- Hire more staff.
- Take the business overseas.
- Increase exposure and prestige.
- Invest in new infrastructure or technology systems.
SPACs: the IPO alternative
Think of a special purpose acquisition company (SPAC) as another vehicle in which a private company can reach the public market. A SPAC is a company that goes public to raise money and then use the money to acquire another company within two years.
It’s becoming an increasingly popular alternative to take the SPAC route to the public market rather than the traditional IPO process because it could reduce paperwork and government oversight.
How are IPO share prices set?
When a company decides to go public, it hires an investment bank to help it achieve this via an IPO. This investment bank is known as the IPO underwriter.
The underwriter helps determine how to price shares. IPOs offer a predetermined number of shares to investors at a set price per share — rather than changing throughout the day like shares on the NYSE.
IPO share price is determined by:
- The company’s current value.
- Potential future earnings of the company.
- Number of shares offered.
Should you invest in an IPO?
If you have an opportunity to buy shares via an IPO at IPO prices, you must understand the benefits and risks involved.
Pros
- Fixed share price. Unlike regular shares, IPOs offer a fixed price per share that won’t change until the market opens.
- Get in early. Investing in an IPO gives you the opportunity to be among the first to buy shares in a company, before it’s listed on the exchange.
- Potentially sell your shares for profit. Well-known brands can see share price rise significantly once they’re listed on a public exchange. If your share increases after the IPO, you could sell them at a profit. But this is a high-risk strategy — and past performance is no guarantee of the future performance.
Cons
- The share price could be overvalued. The set share price offered through an IPO might not be fair value, and you could end up paying more for the shares than they’re worth.
- New companies can be high-risk. Many IPOs are held by newer companies that have only been operating for a few years. Because they’re often still in their growth phase, they’re likely to be higher-risk and more volatile than other shares.
Compare platforms to buy stocks
If you’re not able to invest in an IPO before it hits the market, you can wait until the stock is publicly traded and invest by buying the stock at that time. Keep in mind, early trading of new shares can be volatile.
Compare platforms to find the one that’s the best fit for you.
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Disclaimer: The value of any investment can go up or down depending on news, trends and market conditions. We are not investment advisers, so do your own due diligence to understand the risks before you invest.
Bottom line
Companies hold IPOs when they’re ready to go public and sell their shares. Most large institutes or high-dollar investors invest in IPOs — but recently, everyday investors are getting the chance to participate.
When the IPO is over and the shares are publicly listed on the market, anyone can buy them. Find out when the shares are available on the exchange and do your research to determine how much you’re willing to pay. Then compare stock trading platforms, that way you’ll be prepared when the stocks finally hit an exchange.
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