IPO is an investing acronym we haven’t heard much in a while…until recently. This week, General Motors went through the world’s largest-ever IPO following the embattled automaker’s bankruptcy last year. GM shares are available for trading as of today.
Now that the economy is stabilized and capital is once again flowing to businesses, many companies are getting involved in the IPO market. For many private business CEOs, their goals is to take their companies public. In doing so, they can raise millions or billions of dollars by selling their company’s stock to institutional and individual investors on the open market. An IPO, or initial public offering, is the vehicle to do this. IPOs are often win-win propositions. Investors get the opportunity to own a part of a promising company and the company obtains the capital needed to sustain its growth.
Let’s take a closer look at IPOs. Like, what is an IPO anyway?
An IPO is the first sale of a private company’s stock to the general public. In an IPO, the company typically hires a brokerage firm to underwrite the stock offering. The brokerage firm helps to set the offering price, date, and the amount of securities available for sale. The stock is then sold in the open market and investors have a chance to buy its shares.
IPOs can be hot items because many companies see their shares pop dramatically during the first day of trading. There is normally a lot of excitement when a fresh young company becomes a publicly traded stock. For example, investors clamored to purchase shares of Google and Chipotle when these two businesses went public.
IPOs can also consist of long-time privately held companies deciding to go public. For example, Blackrock Inc. decided to go public after years of being a private equity firm.
Why would a company go public?
There are a number of reason why a company would sell its shares on the open market. The company could be seeking to improve its balance sheet by increasing its cash position. Management could be looking to gain some cash by selling its share. A company may go public so that it can grow to compete against its industry competitors.
The primary reason for most IPOs is to obtain capital to expand. A private company can only get so big on its own. The largest companies in the world are publicly traded companies. Companies need huge amounts of investor capital if they want to grow to the size of the Exxons, Apples, and Best Buys of the world.
Another reason to go public is because it’s a cheap way of getting capital. A company can issue stock and sell ownership to shareholders without having to repay the capital. Loans, bonds, and other forms of borrowing require the company to repay the principal along with interest as well.
Should you participate in an IPO?
Participating in an IPO can be risky business. You need to make sure that you thoroughly read the investment brochure so that you know exactly what you are investing in. New offerings tend to be very volatile and frequently move up or down quickly during their first day of trading. Some stocks peak during their initial public offering and never reach that price again. Conversely, you may buy a stock that is trading cheaply at its IPO launch and never revisit that bargain price again.
Many investors will be paying attention to the stock offering by General Motors taking place today. The company is finally selling stock again after emerging from its bankruptcy proceeding last year. The stock may turn out to be a great buy for IPO investors or a dud—it all depends on GMs ability to turn the company around.
If you do your homework ahead of time, then investing in an IPO may be right for you.