Initial Public Offering (IPO)

The first public offering of equity shares or convertible securities by a company, which is followed by
the listing of a company’s shares on stock exchange, is known an ‘Initial Public Offering’. Initial
public offerings by firms are an important financial process with many influential parts. It is the
process through which a privately held company issues shares of stock to the public for the first time.
Underwriters, investment bankers, and syndicates all play an active role in the creation of an initial
public offering, while securities laws and risk management play an important role in mitigating risk
and ensuring the securities operate within legal guidelines.
The most important objective of an IPO is to raise capital for the company. It helps a company to tap a
wide range of investors who would provide large volumes of capital to company for future growth
and development. A company going for an IPO stands to make a lot of money from the sale of its
shares which it tries to anticipate how to use for further expansion and development. The company is
not required to repay the capital and new shareholders get a right to future distributed by the
company.

Initial public offering process

A. Preparation
In this preparation step all of the requirements that the companies need to go public are:
1.Making general meeting for member of shareholders to make an agreement. The management of the
company should make a clear statement for the reason to raise fund by going public.
2.After accepting the agreement, the company should use capital market experts’ institution for
example underwriter, notary public, legal consultant, and appraisal company. Supporting institution
for example trustee, guarantor, securities administrator bureau, and custodian.
3.Prepare all the documents required for public offering

B. Registration
After administrative step the company do the following steps:
1 received the registration document
2. check all of the documents that consist of:
a. A cover letters
b. Prospectus

Prospectus is a document that consist of the information about the company within last 3 years in
summary. Prospectus inform:
•The function of the fund from goes public
•Risk of the business
•Analysis and discussion from management
•Company profile
 •Financial statement of the company
Every statement and all of supporting documents will be checked. In general, in this step all of
companies

C. Offering
After the registration statement submitted is declared effective, the stock has already sale in public.
Sales occur through initial public offering. This is the main step because this is the step where the
company starting offering their stock to the society. Sale of stock through IPO mechanism is also
known as Sales in primary market. Not all of the companies that do the IPO steps will be known as
public company. After IPO the companies can directly listing their stock in Stock Exchange but
should do the following steps and the rules.

Security Finance
A security, in a financial context, is a certificate or other financial instrument that has
monetary value and can be traded. Securities are generally classified as either equity
securities, such as stocks and debt securities, such as bonds and debentures.
Securities are generally categorized into;
 debt securities (e.g., banknotes, bonds and debentures)
 equity securities (e.g., common stocks)
 derivatives securities (e.g., forwards, futures, options and swaps).

Debt securities
Debt security refers to a debt instrument, such as a government bond, corporate bond,
certificate of deposit (CD), municipal bond or preferred stock, that can be bought or sold
between two parties and has basic terms defined, such as notional amount (amount
borrowed), interest rate, and maturity and renewal date. It also includes collateralized
securities, such as collateralized debt obligations (CDOs), collateralized mortgage obligations
(CMOs), mortgage-backed securities issued by the Government National Mortgage
Association (GNMAs) and zero-coupon securities.

Equity securities
Equity securities usually provide steady income as dividends but may fluctuate significantly
in their market value with the ups and downs in the economic cycle and the fortunes of the
issuing firm. Right to subscribe for, or convert another security (such as a bond) into, the
common stock (ordinary shares) of a firm.
Derivatives securities
A derivative is a contract that derives its value from the performance of an underlying entity.
This underlying entity can be an asset, index, or interest rate, and is often simply called the
"underlying. [ Derivatives can be used for a number of purposes, including insuring against
price movements (hedging), increasing exposure to price movements for speculation or
getting access to otherwise hard-to-trade assets or markets. Some of the more common
derivatives include forwards, futures, options, swaps, and variations of these such as synthetic
collateralized debt obligations and credit default swaps.
Most derivatives are traded over-the-counter (off-exchange) or on an exchange such as the
Bombay Stock Exchange, while most insurance contracts have developed into a separate
industry. Derivatives are one
of the three main categories of financial instruments, the other two being stocks (i.e., equities
or shares) and debt (i.e., bonds and mortgages).

Debentures
Debenture includes debenture stock, bonds and any other securities of a company, whether
constituting a charge on the assets of the company or not.
Kinds of debentures:
Registered debentures
Bearer debentures
Mortgage debentures
Simple or Naked debentures
Redeemable debentures
Irredeemable debentures
Convertible debentures
Non-convertible debentures

The procedure of issuing debentures is the same as that of shares. First, a prospectus is issued
and applications for debentures together with a small amount of deposit called application
money are received. After the receipt of applications for debentures, the allotment of
debentures is made.
The cost of capital is very important concept in the financial decision making. Cost of capital
is the measurement of the sacrifice made by investors in order to invest with a view to get a
fair return in future on his investments as a reward for the postponement of his present needs.
On the other hand, from the point of view of the firm using the capital, cost of capital is the
price paid to the investor for the use of capital provided by him. Thus, cost of capital is
reward for the use of capital. The progressive management always likes to consider the
importance cost of capital while taking financial decisions as it’s very relevant in the
following spheres:

Designing the capital structure: The cost of capital is the significant factor in designing a
balanced and optimal capital structure of a firm. While designing it, the management has to
consider the objective of maximizing the value of the firm and minimizing cost of capital.
Comparing the various specific costs of different sources of capital, the financial manager can
select the best and the most economical source of finance and can designed a sound and
balanced capital structure.
Capital budgeting decisions: The cost of capital sources as a very useful tool in the process
of making capital budgeting decisions. Acceptance or rejection of any investment proposal
depends upon the cost of capital. A proposal shall not be accepted till its rate of return is
greater than the cost of capital. In various methods of discounted cash flows of capital
budgeting, cost of capital measured the financial performance and determines acceptability of
all investment proposals by discounting the cash flows.
Comparative study of sources of financing: There are various sources of financing a
project. Out of these, which source should be used at a particular point of time is to be
decided by comparing costs of different sources of financing. The source which bears the
minimum cost of capital would be selected. Although cost of capital is an important factor in
such decisions, but equally important are the considerations of retaining control and of
avoiding risks.
Evaluations of financial performance: Cost of capital can be used to evaluate the financial
performance of the capital projects. Such as evaluations can be done by comparing actual
profitability of the project undertaken with the actual cost of capital of funds raise to finance
the project. If the actual profitability of the project is more than the actual cost of capital, the
performance can be evaluated as satisfactory.
Knowledge of firms expected income and inherent risks: Investors can know the firms
expected income and risks inherent there in by cost of capital. If a firms cost of capital is
high, it means the firms present rate of earnings is less, risk is more and capital structure is
imbalanced, in such situations, investors expect higher rate of return.
Financing and Dividend Decisions: The concept of capital can be conveniently employed
as a tool in making other important financial decisions. On the basis, decisions can be taken
regarding dividend policy, capitalization of profits and selections of sources of working
capital.
In sum, the importance of cost of capital is that it is used to evaluate new project of company
and allows the calculations to be easy so that it has minimum return that investor expect for
providing investment to the company.
Business risk results from factors that impact the upper portion of a firm’s income statement
—low sales, high operating costs, etc. These factors will impact Revenue, Operating
Expenses, and Earnings before INTEREST and Taxes. Every firm has some form of business
risk.

Financial risk is technically the risk that results from how you finance your business—if you
borrowed any money, you have created financial risk. It impacts the bottom half of the firm’s
income statement in the form of interest on debt. A firm can avoid financial risk by not
borrowing any money; however, most firms do borrow money.

Business risk is often categorized into systematic risk and unsystematic risk. Systematic risk
refers to the general level of risk associated with any business enterprise, the basic risk
resulting from fluctuating economic, political, and market conditions. Systematic risk is an
inherent business risk that companies usually have little control over, other than their ability
to anticipate and react to changing conditions.

Unsystematic risk, however, refers to the risks related to the specific business in which a
company is engaged. A company can reduce its level of unsystematic risk through good
management decisions regarding costs, expenses, investments, and marketing. Operating
leverage and free cash flow are metrics that investors use to assess a company's operational
efficiency and management of financial resources.