by Sithambaranathan Prithiviraj

Created on: September 22, 2008

The stock price of an Initial Public offering(IPO) is a fairly intricate and complex process. As well,it involves many participants. Normally the company do not sell shares to the public directly. It is has to sell shares through an investment bank or merchant bank, which is approved by SEC in US. A company can raise funds by issuing debt instruments such as debentures or other loan securities or by offering shares to the public. Mostly the Initial public offering(IPO) is done by established companies in a particular industry. If any institutional investor or a person invest in the shares of a company they become part owners of the company for a return in the form of dividends and other forms of distribution such as buy backs.

The investment bank is used by the company because it has certain advantages to the company. The first advantage is that the company has to issue shares via a approved investment bank, which is approved by SEC in US.

The second advantage is the experience and expertise of the investment bank in issuing shares before and its ability to advice the management, which is expensive.

The third advantage is the connection it has with bank, investment brokers and other institutional investors to develop a syndicate.

The forth important advantage is that it can protect its liquidity via selling adequate shares at appropriate price and getting the maximum possible funds through intitial public offering.

In setting the price of a company's initial public offering the investment bank has to do an internal analysis in the first place using quantitative and qualitative information. The quantitative information relates to sales growth, profitability in terms of gross and net profit margin and profitability measures. The qualitative analysis involves the ability of the company to effectively compete in the market with its competitors and protect its market share, quality of its management, corporate governance structure, its brand image. This will determine the initial price of shares issued in the initial public offering.

The second process is the peer review by comparing the price with the other peer companies in the market to verify whether the price is too high or low.

Third process is the demand curve analysis. In this phase the investment bank studies the quantity it can sell to its institutional investors by forming a syndicate. It anables the investment bank to alter the price so that it can get the maximum funds for the company and to test the demand for its shares.

The forth process involves the market conditions. This is the final stage. The market conditions will enable to adjust the stock price so that it reflects the market conditions and to set price appropriately so that it can get the maximum funds for the company under the present market conditions.

As discussed above, the stock price of an Initial public offering is determined by a lengthy and complex process.

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