Whenever a company first lists its shares in the stock market for an Initial Public offering (IPO), they need to decide on what price it will offer these shares to the general public. Issuing organizations can determine the price in two ways:
(i) Fixed Rate Issuing and
(ii) Book building methodology.
While following the fixed rate issuing, the company can pre-decide the share price for its IPO. On the other hand, the book building process follows a different methodology to arrive at the offer price. Let us understand how it works.
In simple terms, the book building process helps the issuing company decide its share price for the IPO by analysing the demand for its shares. Companies execute this with the help of Financial Institutions, such as Investment Banks – known as underwriters in this process. When a company decides to offer an IPO using this methodology, it procures bids from selected investors to analyse these bids and gauge the demand for their shares. The company further processes this data to determine the price of its shares. The process is known as book building because the underwriter maintains a book built over time by analysing the bids received from various potential investors.
The book building process comprises five levels, as explained below:
The Book building process can be of two types:
The book building process helps the issuing company find the intrinsic value of their shares before finalising their offer price. It also benefits the company by allowing them to invite selected investors and logically determine their offer price by gauging the demand and analysing the bids received. On the other hand, the process also benefits the investors since the company must disclose all the bidding-related information, making the process very transparent. Overall, the process is considered highly efficient compared to other methods of arriving at the offer price and is also preferred by the stock exchanges.
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