Book-Building Process in IPO

Book-building is a term commonly used in initial public offerings (IPOs). When a company is going to launch an IPO, you might have heard about this term along with ‘price band’, ‘lot size’, ‘cut-off price’ and many more.

A book-building plays a pivotal role in determining the final price of shares sold to investors.

Read this blog to understand book-building meaning, how it works, and its advantages and disadvantages.

What is IPO book-building?

A book-building process in an IPO allows you to determine the price of company shares when going public. In this process, a company creates a price range which includes a minimum and maximum limit. Investors who are willing to participate in an IPO place their bids within this range.

Once the bidding period ends, a company and the fund managers utilise a weighted average procedure to set the final issue price. This is the final price at which investors buy these shares. This price helps to evaluate investor sentiment and determine a fair share price.

How Does IPO Book-Building Work?

Since you have come across what is book-building IPO, it is crucial to understand how it works. The process of book-building is discussed in the pointers below:

1. Hiring an Underwriter

   Companies collaborate with investment banks as underwriters for their IPOs. These underwriters help determine the issue size and set a price range. After that, investors place their bids within this range.

2. Bidding

   Both the underwriters and the company invite investors to participate in the IPOs. Inventors submit their bids within the given price range.

3. Price Puzzle

   The underwriter monitors all investor bids with its order book. They usually use a weighted average process to set the final price of an IPO.

4. Share Allotment

   After the IPO price is determined, the shares are allocated to the investors whose bids are accepted. You can get a refund of your extra amount if you bid higher than the cut-off price.

Types of Book-Building Method of IPO

1. Accelerated Book-Building Process

   The accelerated book-building process enables a company to fix a price band and invite institutional investors to place bids for a very short duration. This approach facilitates quick price discovery and is appropriate when companies have an urgent requirement for capital and want to enter the market quickly. It reduces the IPO timeline while comparing it with the traditional book-building method.

2. Partial book-building Method

   In the partial book-building method, a company offers a portion of the shares through bidding while pricing the rest of the shares at a fixed rate. This procedure is beneficial for companies that want a balance between demand-based pricing flexibility and predictability in raising capital using a book-building method.

Why Do Companies Choose the IPO Book-Building Process?

The companies choose the IPO book-building process for a lot of reasons. Some of them are:

1. Market-Driven Pricing

   This process allows the share price to be determined depending on market conditions and investor demand instead of the fixed price set by the company. This process ensures that the IPO price shows the true market value of shares. This leads to a more accurate and fair valuation of shares.

2. Lessens Underpricing or Overpricing

   Fixed-price offerings can result in overpricing or underpricing. This causes significant price fluctuations after the IPO. A book-building method allows for reducing these risks by aligning the issue price with market demand.

3. Investor Confidence

   The transparency and fairness of a book-building process can increase investor confidence. Since the price is market-driven and not set by the company, investors are more willing to participate.

4. Regulatory Support

   A book-building process is under strict regulation and has a proper structure since the Securities and Exchange Board of India (SEBI) has clear guidelines for a book-building method in IPOs. This regulatory support boosts transparency in the process.

5. Efficient Share Allocation

   A book-building process ensures efficient share allocation to different categories of investors.

• Market Feedback

  Companies get significant insights from investor feedback in a book-building phase. This feedback is crucial for understanding investor expectations and market sentiment. This is significant for the company’s future strategies and decisions.

Advantages of the IPO Book-Building Process

1. Accuracy

   Companies can set an IPO price closer to their true intrinsic value. This reduces the risk of overpricing or underpricing.

2. Efficiency

   A book-building method determines the issue price depending on investor demand, which makes it more impactful than fixed-price issues.

3. Increase in Share Price

   Companies can achieve the highest possible share prices with this process. The share price can also be due to the high bids from investors.

4. Quick Access to Capital

   With a book-building process, companies can secure capital very quickly, streamlining the fundraising procedure.

5. Clear Pricing

   The process determines the issue price before it goes to retail investors, which can eliminate any confusion regarding the pricing at the time of the issue.

Disadvantages of a Book-Building Method of IPO

Although there are a lot of advantages of a book-building process, it also includes several disadvantages:

1. It may not work for smaller companies since they may prefer private placements or fixed-price offerings for certainty.
2. A book-building method is more appropriate for high-value public issues, especially where companies target high-net-worth individuals (HNIs).
3. This procedure in an IPO may limit retail investor participation, as not everyone meets the eligibility criteria to bid on a book-building issue.
4. The book-building issue’s underwriting can be more intricate than that in a fixed-price offering.
5. Book-building methods like accelerated issues can only be used to select investor groups like HNIs and institutional investors.

SEBI Regulations for a Book-Building Process of IPO

Every aspect of IPO is well-regulated by the SEBI, including a book-building process. Below are the regulatory requirements for the book-building process for companies:

• The price band cap in this process cannot exceed 20% of the floor price.
• The issue should be fully underwritten, which ensures all shares are sold.
• The company can change the price band in the IPO with a compulsory 3-day extension.

Final Thought

A book-building process in an IPO is crucial to understand, since it helps companies to price their shares in an IPO. This also makes the task easy for investors to actively participate in valuing shares by submitting bids.

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Frequently Asked Questions on Book Building Process in IPOs

1. Is book-building profitable?

A book-building procedure is not an investment, but rather a process which helps IPOs determine the price of an IPO. An IPO investment which uses book-building can be profitable. However, it is a speculative and high-risk endeavour.

2. What is the book-building price in an IPO?

A book-building in an IPO is the final price set depending on market demand, after investors have submitted bids in a pre-determined price band.

3. What are the risks involved in the book-building process of an IPO?

Although there are a lot of advantages, book-building also includes a lot of risks. These are investor participation, market conditions, pricing risks, regulatory compliance, and others.

4. What does 100% book-building mean?

In a 100% book-building process, all IPO shares are provided through bids. This procedure depends on investor demand to fix the price.