Chapter 17: IPOs: The different types of investors

• QIIs: Their importance
• SEBI’s role in preventing market distortion

The first chapter had touched upon the different categories of investors in an IPO. So, let’s look at them in greater detail.

Under Securities and Exchange Board of India (SEBI) guidelines, there are four types of investors who can bid for shares during the IPO process. These are:

Qualified institutional investors (QIIs): Commercial banks, public financial institutions, mutual fund houses and Foreign Portfolio Investors that are registered with SEBI fall in this category.

Underwriters try to sell large chunks of IPO shares to them at a lucrative price before the start of the IPO. Selling shares to QIIs go a long way in helping underwriters meet the targeted capital.

SEBI mandates that institutional investors sign a lock–up contract for at least 90 days to ensure minimal volatility during the IPO process.

QIIs are especially important for a company launching an IPO. That’s because underwriters offer IPO shares to them before the price discovery in the share market takes place. If QIIs buy more shares, there would be lesser number of shares available to the general public. This would result in higher share prices. This scenario is ideal for a company because they want to raise as much as capital as possible.

However, SEBI has laid down rules to ensure companies do not distort the IPO valuations. That’s the reason the regulatory body does not allow companies to allocate more than 50% shares to QIIs.

Anchor investors: Any QII, who makes an application of over Rs 10 crore, is an anchor investor. Such investors typically bring in other investors as well. Up to 60% of the shares meant for qualified institutional investors can be sold to anchor investors.

Retail investors: Any QII, who makes an application of over Rs 10 crore, is an anchor investor. Such investors typically bring in other investors as well. Up to 60% of the shares meant for qualified institutional investors can be sold to anchor investors.

The minimum allocation under the retail quota is 35%.

SEBI has decreed that if the issue is oversubscribed, subject to availability, all retail investors be allotted at least one lot of shares.

If the one-lot-to-each-investor is not possible, a lottery system is used to allocate IPO shares to the public.

High net-worth individuals (HNIs)/Non-institutional investors (NII): Individuals looking to invest more than Rs 2 lakh are categorized as HNIs.

Similarly, institutions that want to subscribe for more than Rs 2 lakh are called non-institutional investors. The difference between a QII and an NII is that the latter does not have to register with SEBI.

The allotment of shares to HNIs/NIIs is on a proportionate basis, i.e., if one applies for 10,000 shares and the issue is oversubscribed 10 times, they would be allotted 1,000 shares (10,000/10).

This means they are always allotted shares, regardless of whether the issue is oversubscribed or not.

Typically, 1-2% of shares are earmarked for the employees as a way of awarding them for the risk they took in associating with a new company.

The final word

From understanding the importance of an IPO to learning how to bid for it, the different chapters in the e-book have been important touch-points in terms of understanding the flesh and bones of the IPO world.