If you’re just getting started in the world of investing, you may have heard 3 letters quite a bit and you may not be sure what they mean. Those letters are IPO. Here’s what you need to know about IPOs.
An IPO by definition is an acronym meaning Initial Public Offering. Ultimately, an IPO is the first time that a private company offers its shares for sale to the public. This transaction is the defining transaction that turns a privately held company into a publicly traded company. While most privately held companies do have shareholders, those shares are not available for sale to the general public.
Why Do Companies Go Public?
You may wonder why a company would ever go from private to public. Ultimately, the reason is usually money. At the end of the day, privately held companies have to depend on their lenders and shareholders when funds are needed. However, by going public, funds can be raised from the public, giving the company the capital that it needs in order to continue and/or grow operations. Even if a company can access capital through lenders, this capital generally comes at a higher cost. By putting shares up for sale to the public, the company ultimately reduces its cost of raising capital.
However, money isn’t the only reason that a company may go public. One of the benefits of becoming a public company is attracting a skilled work force. In fact, many high end executive officers would never consider working for a private company. However, if a company were to go public, it becomes easier to get the attention of these high-level executives.
Another benefit outside of money has to do with acquisitions. If a privately held company wants to acquire another company, they are going to have to do so in what’s known as an all-cash transaction. However, public companies have more diversified options when considering acquisitions. In fact, acquisitions can be paid for in all cash, all stock, or a mix of the two, by public companies. Of course, that is if all parties agree.
Is It Smart To Consider An IPO?
This is a question that has many determining factors. At the end of the day, investing in IPOs is a good thing for some and bad thing for others. First and foremost, because these companies haven’t been public, the amount of data surrounding them when doing your due diligence will be minimal. So, it’s important that you have experience analyzing publicly traded companies before you try to analyze an IPO as an investment opportunity. It’s also important to remember that IPOs generally come with a higher amount of risk as the lack of data makes them a more speculative investment.
On the other hand, IPOs can pay off big. So, there are a couple of questions here. First, do you believe that you can properly assess the value of a privately traded company? Second, are you willing to take on the added risk associated with investing in IPOs? If the answers to these questions are yes, IPOs may be just right for you!