What Happens if IPO is Underscribed? – Benefits and Drawbacks

Investing in an Initial Public Offering (IPO) provides an opportunity to get in on the company’s foundational stage, offering significant growth potential. Participating in an IPO could lead to quick profits in the short term and contribute to long-term wealth accumulation.

But there are some scenarios where IPOs fail to generate much interest and recieve lukewarm response from investors.

These IPOs fail to reach 100% of thier subscription status and this phenomenon is called undersubscription in IPO terminology.

Let us understand more about undersubscribed IPOs and their details.

what-is-undersubscibed-ipo

What is an Undersubscribed IPO?

An Undersubscribed IPO occurs when the demand for shares offered by a company is insufficient, with fewer investors expressing interest than the total available shares.

In essence, there is a disparity between the number of shares offered to the public and the level of investor interest.

This situation may impact the company’s initial public offering process, potentially leading to adjustments in share pricing or, in extreme cases, the postponement or cancellation of the IPO.

Undersubscribed IPOs reflect a lack of robust investor engagement and interest in the company’s stock during its transition to the public market

In recent times, IPOs of ICICI Securities and HAL are the prime examples of an Undersubscibed IPOs of India.

Reasons for Undersubscription

Undersubscription in IPOs can happen for various reasons like how investors act and what people think in the stock market.

Investor Reluctance:

Potential investors may exhibit hesitancy and reluctance to allocate funds to a new and untested venture. The unfamiliarity and perceived risk associated with investing in a company transitioning from private to public status can deter participation.

Overvalued Shares:

The pricing of shares in an IPO is critical. If investors perceive that the offered shares are overvalue, priced higher than their perceived intrinsic value then they may be disinclined to subscribe, fearing a potential lack of return on investment.

Hype and Uncertainty:

Excessive hype or uncertainty surrounding an IPO can cloud investors’ judgment. The heightened excitement or ambiguity about the company’s prospects can make it challenging for investors to make well-informed decisions, leading to a reluctance to participate.

Effects of Undersubscription

When an IPO is undersubscribed, several effects can happen:

Lower Share Price:

The company might have to sell their shares at a lower price than they hoped to get more people interested. This means they won’t raise as much money. Also the premium at grey market also would be less for the IPOs which are not subscribed fully.

Challenges in Capital Generation:

If not enough people buy the shares, the company might struggle to get the money they need for their plans or expansion.

Investors May Lose Confidence:

People who already bought shares might see the value go down, making them worried about their investment.

Impact on Investment Banks:

The banks helping with the IPO might face problems if the company can’t raise enough money.

Difficulties in Borrowing:

If the IPO doesn’t work out well, the company might have a hard time borrowing money from banks, and if they do, it could cost them more.

Benefits of Undersubscribed IPOs

Controlled Share Prices:

An Undersubscribed IPO allows the company to manage its share price more effectively, avoiding artificial inflation caused by high demand.

Meeting Investor Demand:

Having sufficient shares ensures that all investors can participate, avoiding exclusion or the need to purchase at higher-than-desired prices.

Making Money from Undersubscribed IPOs

Investors can employ strategic approaches to capitalize on undersubscribed IPO opportunities:

  1. Timing Matters: Watch for IPOs priced at the lower end of expectations to generate more interest.
  2. Thorough Research: Given the inherent risks, in-depth research about the company is crucial before investing in undersubscribed IPOs.
  3. Strategies for Profit: Look out for secondary offerings, consider purchasing shares from private investors, and be attentive to signs of investor fatigue or potential sell-offs.

How To Avoid Undersubscribed IPOs

Potential investors can take measures to mitigate risks:

Market Conditions Awareness:

Stay informed about the overall market conditions. If the market is struggling, there’s a higher chance that IPOs, in general, might be undersubscribed. Keep an eye on major market indices and economic indicators to gauge the market’s direction.

Company Knowledge:

Have a good understanding of the business before considering investing in its IPO. Analyze the company’s financial health, future plans, and overall market positioning. This knowledge helps in making informed investment decisions.

Conclusion

When a company’s IPO doesn’t attract enough interest resulting in undersubscription, it shows challenges and disappointment, signaling a lack of confidence from the market. But it’s not the end. Companies can make changes, have strong plans, and win back trust to succeed.

Understanding what happens in undersubscribed IPOs is important for both companies and investors. While there are risks, there are also chances for smart investors who can go through the market complexities.

Investors should be careful, do thorough research, and stay updated to make wise decisions whenever investing in all the future IPOs.

Undersubscription in IPOs FAQs

Q1: What is undersubscription in an IPO?

Answer: Undersubscription in an IPO occurs when the demand for shares is lower than the total number of shares offered by a company. This indicates a lack of investor interest.

Q2: Why does undersubscription happen?

Answer: Undersubscription can happen due to factors like investor hesitation, overvaluation of shares, and uncertainties or lack of excitement about the IPO.

Q3: What are the effects of undersubscription?

Answer: Undersubscription can lead to a lower share price, challenges in capital generation, potential impacts on investor confidence, and difficulties for investment banks involved in the IPO.

Q4: How can investors make money from undersubscribed IPOs?

Answer: Investors can consider strategic timing, conduct thorough research, and explore profit-making strategies like watching for secondary offerings or buying shares from private investors.

Q5: How can companies avoid undersubscribed IPOs?

Answer: Companies can avoid undersubscription by sweetening the deal for investors, increasing marketing efforts, or reducing the number of shares offered to make each share more valuable.

Q6: Is undersubscription the end for a company?

Answer: No, undersubscription is not the end. Companies can take corrective actions, implement robust plans, and regain investor trust to turn the situation around and achieve success.

Check Out Below Articles Related to IPO: