27 May 2022
Oversubscription is the total shares in an IPO whose application surpasses the number of shares on offer. This situation occurs when a big percentage of the public is overly interested in investing in a new organization and offers more money than the company envisioned. Read on for more insights to help you understand overpriced IPOs.
When demand is higher than the total shares during an IPO subscription process, the IPO is said to be oversubscribed. An oversubscribed IPO shows that investors are anxious to buy the company’s shares, which pushes the prices higher and increases the shares companies offer for sale.
An oversubscription does not immediately show that the market will be comfortable paying the high price for long. Once an IPO is oversubscribed, some applicants are not approved. The shares are allocated on a pro-rata basis. In this case, the subscribed capital and the issued capital remain the same.
For applications that are declined, the money is refunded. An advantage of oversubscribed security in Mumbai is that the firm can increase the price of an asset, offer more securities, or do both to raise extra capital and meet demand.
Usually, organizations retain a huge portion of their shares to cater to future management incentives and capital needs. As a result, there usually is a constant pool of shares they can add when an IPO is highly oversubscribed without having to register new securities with regulators.
Over-subscription occurs in any stock market with a limited supply of new securities. However, it’s usually affiliated with trading new shares through an IPO where the demand surpasses the total number of shares that the IPO’ing firm issues.
Share prices are purposely set at a level that will dispose of all shares. Generally, IPO underwriters don’t want a situation where they remain with unsold shares, resulting in an under-purchased issue. If the demand for the IPO is higher than the supply, the company can charge a higher price for the securities to raise more money for the issuer. Doing so earns the underwriter more money.
Overpriced IPO shares are usually underpriced to allow for the continuation of pop and powerful trading to create excitement around the issue. Organizations retain some capital but can still grant internal stockholders a paper gain should they encounter a lock-up period.
Suppose you apply for company ABC’s IPO for six lots of shares, totaling 1,170 shares, but you only get two lots due to oversubscription. Where will the rest of your money, equivalent to 780 shares you had applied for but didn’t receive?
Remember, you don’t make payments during the IPO application process. Only the currency matching your bid will be blocked in your account, and you will be unable to access it until the IPO process finalizes.
As a result, your bank will mark the bid amount in your account as a lien while your bid will be recorded with the exchange. If your bid succeeds, the amount will be charged to your account, and a shares allotment will occur. If the bid is unsuccessful, the bank will release the blocked amount, and you will be able to access it.
The share allotment process occurs based on the rules set by the Securities and Exchange Board of India (SEBI), Mumbai. The allocation is reserved for specific groups: retail investors, non-institutional investors, and qualified institutional buyers. To invest in IPOs, participants must have a Demat account. Investor categories in every IPO are identified, and a certain percentage of shares are allotted to each category. Investor categories are identified as:
The allocation of shares varies for every investor category. For example, 35% of the shares could be allotted to retail investors, while institutional investors may receive an up to 50% allotment.
When there is an oversubscription, the number of shares accessible to retail investors is distributed based on the lot size. This process helps establish the number of retail investors who will receive shares. If the total applications surpass the available lots, each application will receive only one lot to ensure fairness in the IPO allotment process.
In the case of the BSE IPO, which was oversubscribed 51.01 times, the demand was for 55 crore shares even though only 1.07 crore shares were available. The oversubscription based on the retail section only was 6.48 times the assigned shares. The oversubscription was up to 6.48 times the total allotted shares in the retail section. Assuming each investor had applied for a single share, the demand was 3.98 times, meaning that up to 75% of retail investors received zero allotments of initial public offering shares. Still, the chances are high that the total number of retail brokerage investors will surpass the number of shares issued.
In that case, the draw lots determine the qualification for the minimum lot. This computerized and automated process leaves no room for errors. Every investor should prevent unwarranted transactions in their trading accounts by updating their email IDs and mobile numbers with their depository participant or stockbrokers. Doing so ensures that you receive alerts of any transactions on your Demat account from CDSL/exchange CIN delivered in the interest of investors at the end of the day.
An IPO doesn’t get oversubscribed for individual retail investors because there is a total allotment to all applicants if an IPO is oversubscribed in this group. When a small oversubscription occurs, each applicant is first allotted one lot of shares. If the oversubscription is large, the one lot of shares is allotted via a lucky draw through a computer.
Companies and individual investors that bid more than Rs 2 lakhs are non-institutional bidders. In this case, the allotment is proportionate. For instance, suppose the IPO is subscribed 100 times, and investors that applied for 100 shares get one share.
Financial institutions such as mutual funds, insurance companies, and banks registered with SEBI are referred to as QIBs. They apply in high quantities, explaining why 50% of the offered size declared in the IPO prospectus is reserved for QIBs. SEBI guidelines bar these institutions from withdrawing their bids once the IPOs close.
Popular IPOs are usually oversubscribed since many traders want to gain from listing. Often, the stock price. When a reasonably priced IPO is oversubscribed, it can benefit from a good listing on the national stock exchange (NSE). Oversubscription is an excellent reason for a good listing, but it also depends on different factors like the market conditions and the market conditions at the listing time.
An oversubscription is an opportunity for companies to earn more money. However, investors will have to pay a higher price and will likely be priced out should the prices surpass their personal finance goals. Oversubscriptions may hurt investors that flock to a popular IPO that pushes the initial market price only for prices to drop after a few weeks or months.
In 2012, experts opined that the much-anticipated Facebook (Meta) sought to raise approximately $10.6 billion by selling around 337 million shares at between $28 and $35 each. The IPO was expected to attract high interest from investors to become oversubscribed quickly.
As expected, the investor interest following the IPO triggered more demand for Facebook shares than it offered. To exploit the oversubscribed IPO and manage the investor demand, Facebook offered more shares to investors and increased the IPO price to $38 per share. With its underwriters, Facebook raised the share price and supply to meet demand and reduce the securities’ oversubscription for a final increase value of approximately 40% from the previous IPO terms.
In the end, Facebook raised more money and gained a high valuation, and investors too got their preferred shares. However, things changed as Facebook’s stock dropped suddenly in its initial four months of trading. The stock traded within its IPO price until July 2013. Its performance has since improved.
The Life Insurance Corporation of India LIC IPO launch was recently promising, with ₹ 5,630 crore shares worth destined for anchor investors getting oversubscribed at the high-end of the pricing range.
The Rs 444-crore IPO issue of Mazgaon Dock Shipbuilders triggered an overpowering reaction from investors. It was subscribed up to 157.41 times three days after its release. In the retail category, the initial public offering had a subscription of 35.63 times, 678.88 times in the non-institutional investors, and 89.71 times in qualified institutional investors by the end of the IPO.
Great IPOs usually attract high demand from investors, causing an oversubscription. Through this situation, companies earn more capital while investors pay a high price for shares. Worth mentioning is that not all IPOs are successful, and sometimes they are undersubscribed. Learn more about this concept in our subsequent articles.