Retail investors, especially beginners who recently developed an interest in the stock market or started investing in the share market, often need clarification with IPO and FPO. To help such investors have a clear idea, we brought a comprehensive guide on follow-on stocks.
What are Follow-on Shares?
When a firm offers shares after being listed on IPO to issue more shares to raise more funds to capitalise on their projects, pay their dues or acquire other businesses, those additional shares are called follow-on offerings or follow-on shares. For instance, Google issued 14,159,265 follow-on shares in 2005, and every share had a worth of $295.
Facebook announced in 2013 that it would issue an additional 27,004,761 shares. Existing shareholders offered 42,995,239 shares, including 41,350,000 shares offered by the company's CEO, Mark Zuckerberg. The funds raised from the sale of shares were to fund the company's business operations and boost liquid assets.
Tesla also has a history of issuing follow-up shares many times. In 2011, the company issued
530,000 additional shares in the public market, while 4,344,930 shares in 2012.
How Does FPO Work?
As the firm is already public and has existing shares listed on a stock exchange, the stock price in a follow-on offering is market-driven, dissimilar to an initial public offering. Since follow-on shares are open to the public, prospective investors can compare their fair market value with the company's price before purchasing shares.
A follow-on share is typically sold at a discount to the existing price of shares currently on the market, and it is done to entice potential subscribers to purchase the shares on offer. In addition, shares in a follow-on offering are divided into diluted and non-diluted shares. In contrast, shares in an initial public offering are divided into common and preferred shares.
Types of Follow-On Offerings
Diluted Follow-On Offerings
A company's diluted follow-on offering is when it issues additional stocks in the public market to raise capital. If the number of shares grows, the earnings through every share decrease. The money raised through follow-on offerings is usually utilised to clear debts and to liquefy the firm's financial structure. Liquidity is vital for a company in a long-term perspective, consequently, for its stocks.
Non-diluted Follow-On Offerings
Non-diluted follow-on offering is when a firm's stakeholders bring the firm's previously issued shares into the public market for sale. The money generated through the non-diluted offerings belongs to the firm's stakeholders, who brought the shares to the general market. These offerings can be unlisted shares or private equity of the company. Usually, stakeholders who make these offers are founders of the company, directors' board members and unlisted shareholders. Since they are previously issued shares, the company's earnings per share don't get affected. Non-diluted shares are often called secondary market offerings.
Difference Between IPO and FPO
The significant difference between follow-on offerings and initial public offerings is the involved risks. Investment in follow-on offerings involves comparatively less risk than investment in initial public offerings. It is because investors can access the information and data about the firm's previous performance from the share market. Due to the "reward for risk-tasking" factor, the chances of gaining profits through investing in follow-on offerings are also less than investment in initial public offerings.
Why Do Companies Issue A Follow On Offerings?
A company that is listed on IPO typically issues follow-on shares as additional shares to raise more funds to ensure adequate capital liquidity within the company. Apart from that, there may be multiple reasons why a company issues follow-on stocks, some of which are mentioned below.
- A company uses the earnings from the sale of follow-up shares to pay off current debts, especially if the volume of debt is excessive. They want to bypass debt covenants, which can significantly impact business operations.
- A company can issue follow-up shares to grow its equity, rebalance its financial structure and maintain the expected debt-to-value ratio,
- Because the IPO did not raise enough funds to support its growth strategies, the firm intends to issue additional shares through follow-up.
- The company would issue follow-on shares to raise capital rather than increase debt and interest expenses to finance new business expansions, mergers and projects.
What Does It Mean For The Companies?
Follow-up shares are an excellent medium to generate funds when a company needs the most. As we all know, clearing debts is vital to maintaining a good credit history; follow-up shares help firms to balance their debt level, thereby sustaining excellent credit records. By issuing follow-up scores, firms ensure that there will be a smooth cash flow within the organisation and they have enough money to finance new projects, and their business operations will run smoothly. Moreover, firms use follow-up offerings to diversify their equity base.
What Does It Mean For The Investors?
It's important for investors to pay attention if a company they have invested in has announced a follow-on offering. FPOs frequently dilute existing shares, which means that each of the shares investors hold represents a smaller percentage of the company's ownership. If and when the company distributes profits to shareholders, this could result in lower dividends in the future. On the other hand, if a company in which you are interested in investing is issuing an FPO, it could be a fantastic opportunity. Companies frequently offer discounted FPO shares to entice buyers, and the FPO could be a chance to buy shares at a lesser price.
How To Invest In Follow-up Offerings?
The process of investing in the follow-up offerings is similar to investing in an IPO through private retail investors or private trading platforms. Any individual above 18 years with a PAN card and Demat account can invest in follow-up shares and start trading. If you are interested in follow-up offerings and wish to invest, Stockify can help. It is an online stock trading platform where you will get inclusive assistance for pre-IPO trading. Here you will get assistance to manage your portfolio and wealth.
