What is it
When an already listed company wants to sell more shares to investors, it does so through a follow-on public offer (FPO).
How are these different than IPOs
Though they sound similar, they are very different from initial public offers, or IPOs. While IPOs are issued when a company sells its shares for the first time in the market, FPOs are supplementary issues and are offered even as the shares of the company are traded in stock exchanges. However, both FPOs and IPOs require the company to file offer documents and the offer price is determined by the book building process. In this process, the issuer sets a price band within which investors bid. Typically in FPOs, the price is band is set at a discount to the market price.
Kinds of FPO
There are basically two kinds of FPOs.
One, where companies want to raise money from the equity market to pay off debt or for expansion activities such as building factories or buying other companies. For instance, Tata Steel Ltd raised Rs 3,477 crore through its offer from 19-21 January. The company said the money would be used to expand its Jamshedpur facility and to redeem previously issued debentures.
Two, when existing institutional investors, venture capitalists, promoters or company executives want to sell all or part of their holding. For instance, the FPO of Power Grid Corp. of India Ltd, which ran from 9-12 November, saw the government of India—the promoter—sell some of its holding as part of the disinvestment programme.
What they mean for you
In the first type of FPO, fresh shares are created and sold by the company. As a result, the number of shares outstanding goes up. This means that earnings per share gets diluted, which could also lead to decline in the price of existing listed shares. For instance, when Tata Steel decided to issue 57 million shares in its follow-on offer, the company’s share price shed 2.47% on the day of the announcement.
In the second type, new shares aren’t created. Therefore, earnings per share does not change. However, the price of the listed shares could still go down. This is because investors will take advantage of the price arbitrage, buying shares issued during the FPO at a lower price and then selling it at the higher listed price. As this arbitrage vanishes, the listed price, typically, comes down to the level of the fixed issue price.