Everything You Need to Know About Book Building Process

When a company decides to go public and raise capital through an Initial Public Offering (IPO), determining the right share price is one of the most critical decisions. The Book Building process is a pivotal method used to set this price, and it plays a key role in ensuring that new shares are priced accurately for both the company and investors.

In this blog, we’ll explore the Book Building process in detail—how it works, its benefits, and why it’s an essential step in the IPO journey. By the end, you will come to know what is book building, book building process in IPO, etc.

What is Book Building Meaning in IPO?

The Book Building process is a crucial method for determining the price of shares during an Initial Public Offering (IPO). In this IPO process, the company sets a price band, providing a range within which investors can place their bids during the subscription period. The company, along with the Book Running Lead Managers (BRLMs), collects bids from investors and uses a weighted average approach to finalize the price once the subscription period ends.

The final price, known as the cut-off price, is then determined based on demand and investor interest within the specified range. Investors who placed bids are allotted shares at this final cut-off price, ensuring a fair and market-driven pricing mechanism for the IPO. This process helps achieve the most accurate price point for both the company and the investors.

The Book Building Process

The book-building process aims to determine the price band and the number of shares the company aiming for an IPO should allot to institutional investors. This section covers the main steps of this process:

1. Appoint Reputed Merchant Bankers

The company appoints seasoned merchant bankers to manage the entire IPO process, from drafting the offer documents to securing regulatory approvals, determining the price and share allocation based on demand, and listing on the stock exchanges.

These bankers have extensive experience, specifically in public issues to ensure smooth IPO process as per norms.

2. File the Draft Red Herring Prospectus (DRHP)

The merchant bankers prepare and file the DRHP, which provides comprehensive information to investors on the upcoming IPO. This includes proposed utilisation of funds raised, financial statements, management commentary on past performance, future business plans and prospects, key risk factors that can impact the company, and price band details. Stock market regulator SEBI examines the DRHP to ensure compliance.

3. Market the Issue to Investors

The issuer company and bankers undertake an extensive IPO marketing campaign, including roadshows and meetings to generate investor interest. The aim is to attract large institutional investors to anchor the IPO and provide price stability. These anchor investors help build confidence among retail investors regarding the public issue.

4. Price Discovery Based on Investor Demand

A price band is included in the DRHP, and investor bids are collected through the book building process. Merchant bankers analyse the demand for order books by studying bid volumes at various prices. In consultation with the issuer, the book runners finalize the IPO price band before share allocation happens.

5. Allocation of Shares

As per SEBI guidelines, a minimum number of shares are allocated to retail individual investors at the final IPO price. Anchor investors get shares based on their committed bids. The remaining shares are allotted to institutional bidders per the order book. Proper share allocation principles prevent large bidders from crowding out smaller investors.

6. Listing of Shares on Stock Exchanges

Upon closure of the public issue, shares are listed on the chosen stock exchanges following regulatory approvals. This allows trading to commence based on dynamic price discovery. Investors can thereby enter/exit the stock after listing based on market prices.

Why do Companies Prefer the Book Building Process?

Companies prefer the Book Building process for setting IPO prices due to several key advantages it offers:

• More Accuracy: The Book Building process helps gauge investor demand more accurately through bidding. The order book consolidates bids from both institutional and retail investors at different price levels, making it easier to find the optimum price that investors are willing to pay.
• Market-Driven Pricing: Instead of the company arbitrarily deciding on a price, the Book Building process lets investor demand determine the appropriate issue price. This market-driven approach removes pricing bias and speculation.
• Flexibility: The price band during the bidding window can be revised based on investor feedback. The company can set the final IPO price at the highest level the market will bear.
• Risk Mitigation: Tying the IPO price to genuine investor demand reduces the risk of undersubscription. This protects the company from lacklustre listings due to overpricing and gives more certainty.
• Strong Aftermarket: When shares are correctly priced to market demand, they support a strong stock performance after listing, maintaining investor confidence and enthusiasm.

Difference Between Fixed-Pricing and Book-Building

Here’s a comparison between Fixed Pricing and Book Building methods for setting IPO prices:

Conclusion

The book building process is integral to the IPO mechanism. By gauging investor appetite, it helps companies raise capital effectively. The procedure also makes share allocation fairer through a price discovery method. For investors, it helps determine reasonable application sizes. Overall, book building balances the interests of both issuers and investors in an IPO.

FAQs on Book Building Process of IPO

1. What is book building meaning in IPOs?

Book building is a process of price discovery in IPOs. It helps determine the price band and demand for shares through bids made by institutional investors.

2. Who does book building for an IPO?

The issuer company appoints reputed merchant bankers or underwriters to carry out book building for its IPO.

3. What is the role of underwriters in the IPO book-building process?

Underwriters market the IPO to institutional investors, help determine the optimal price band based on demand, build an order book, allocate shares after pricing, and manage regulatory compliance.

4. What is an order book in the book building?

The order book is a record of investor bids collected during the book-building process. It captures demand at different price levels.

5. How does book building help determine IPO price?

Underwriters arrive at the final IPO price by analysing the order book and levels of oversubscription in consultation with the company.

Author: All Content is verified by SMC Global Securities.