What is an IPO and How can you Invest in one?

Investing in an IPO (Initial Public Offering) can be exciting—and potentially very rewarding. But before you dive in, it’s important to understand how IPOs work, how they’re different from regular stock trading, and the extra risks and rules that come with them.

Table of Contents

What Is an IPO, Anyway?

An IPO is when a private company sells its shares to the public for the first time. In simple terms, it’s the moment a company “goes public.” This lets the company raise a lot of money—maybe to grow the business or pay off debt. It also gives early investors (like the founders or venture capitalists) a chance to cash in on their shares.

But it’s not a quick or easy process. Investment banks (called underwriters) help the company get ready for the IPO. They file paperwork with the SEC, create a prospectus (a detailed document about the company), and even go on a “roadshow” to build interest from potential investors.

How IPOs Work

Before going public, companies are privately owned. Their investors are usually a small group—founders, family, friends, or venture capitalists. Once they decide to go public, they work with underwriters to figure out how many shares to offer and at what price.

A company might choose to go public when it’s grown enough to handle the regulations and responsibilities of being listed on a stock exchange. Many IPOs happen when a company hits a valuation of around $1 billion (also called “unicorn” status), but smaller companies with strong potential can go public too.

Once the IPO happens, private shares turn into public ones. This gives everyday investors the chance to buy in, while the company gets a big cash boost to use for growth.

IPOs in History

IPOs have been around for centuries—the Dutch East India Company is known for launching the first one. Since then, IPOs have helped many businesses raise money from the public.

Over time, IPO trends go up and down. For example, the dot-com boom saw a flood of tech IPOs. Then came the 2008 financial crisis, which almost brought IPOs to a stop. More recently, investors have focused on “unicorns”—startups worth over $1 billion—and their decision to go public or stay private.

The IPO Process: Step by Step

Launching an IPO involves two main phases: pre-marketing and the actual offering. Here’s how it usually works:

Choosing Underwriters
The company picks one or more investment banks to guide the process and help with pricing, paperwork, and marketing.
Creating the Team
A group of experts—including lawyers, accountants, and SEC specialists—is formed to manage all the details.
Filing Documents
The main form, called the S-1 Registration Statement, is filed with the SEC. It includes a prospectus that investors will read.
Marketing the IPO
This is when the company goes on its roadshow, presenting to potential investors and adjusting the offering price based on demand.
Listing the Shares
On IPO day, the company officially sells its shares on the stock exchange and raises capital. The value of the company’s equity grows with the money raised.
Post-IPO Rules
Some investors face a quiet period where they can’t sell their shares immediately. Underwriters might also have the option to buy more shares after the IPO.

Also Read: What are the Top-Performing Consumer Goods Stocks?

Pros and Cons of Going Public

Benefits of an IPO:

Access to more money: Companies can raise big funds from public investors.
Better visibility: Being listed improves the company’s reputation and brand image.
Easier loans: Transparency and regular financial reporting can help secure better loan terms.
Attracting talent: Stock options can help recruit and retain top employees.

Downsides of an IPO:

It’s expensive: IPOs cost a lot, and maintaining a public company isn’t cheap either.
Pressure from stock prices: Management might focus too much on short-term stock performance.
Loss of privacy: Companies must share detailed financial and business information.
Risk of losing control: Public companies must answer to shareholders and the board.
Ongoing responsibilities: Regular reporting and compliance require time and resources.

Some companies choose to stay private or look for other options, like being acquired, instead of going public.

IPO Alternatives (Explained Simply)

Direct Listing
A direct listing is when a company goes public without using underwriters (the banks that usually handle IPOs). It skips a lot of the usual steps, which can be risky, but it also lets the company keep more control and potentially get a better share price. This method usually works best for well-known brands with strong businesses.

Dutch Auction
In a Dutch auction, the company doesn’t set a price for the shares. Instead, buyers bid on how many shares they want and how much they’re willing to pay. Shares go to the highest bidders until all are sold.

Investing in an IPO

When a company decides to go public, it’s not a random move. It usually means the company has grown a lot and is ready to raise big money to expand even more. Early investors often want to cash out, and the company wants to bring in fresh capital.

IPOs are often priced to be attractive to new investors—usually a bit lower than the company’s full value—to make sure the offering sells out.

The price is usually decided by underwriters, who use financial models like discounted cash flow (estimating how much money the company will make in the future). They might also look at similar companies, market trends, and investor demand.

It’s tough to fully evaluate an IPO. Headlines help, but your best bet is the company’s prospectus (part of its S-1 form), which has all the important details. Look closely at the leadership team, the underwriters, and the company’s goals. A strong IPO usually has a big-name investment bank backing it.

Before the IPO hits the public, big institutional investors (like mutual funds and banks) often get the first chance to buy. Regular investors usually get access on the day of the public launch—if they have a brokerage account that’s offering shares.

Also Read: What are Mutual Funds and How do they work?

How IPOs Perform

A lot of things can affect how an IPO performs. Sometimes there’s too much hype, and the stock crashes after the excitement fades. But many IPOs jump in price early on because they’re new and in demand. Here are a few key factors to watch:

Lock-Up Period
You might notice that a stock drops suddenly a few months after the IPO. This is often due to the lock-up period ending. That’s a rule saying insiders (like employees and early investors) can’t sell their shares for a certain number of months—often 90 to 180 days. When that time is up, many rush to sell, which can push the price down.

Waiting Periods
Some banks set aside shares to be sold later. If those shares are bought up, prices may rise. If they aren’t, prices might fall.

Flipping
Flipping is when people buy IPO shares and sell them quickly to make fast money. This is common if the IPO price is low and demand is high on day one.

Tracking Stocks and Spin-Offs

Sometimes, companies create tracking stocks by spinning off parts of their business. These new stocks can give investors a way to bet on specific parts of a bigger company, like a fast-growing division. This often brings more transparency and less price volatility than a brand-new IPO, because investors already know the parent company.

Why Companies Go Public

The main reason is to raise money. Companies can use it to grow, develop new products, pay off debt, or just boost their reputation. Going public also gives early investors (like founders or venture capitalists) a chance to cash in.

Should You Buy IPO Shares?

Buying into an IPO can be exciting, but it’s also risky. The company might be new to the public market and hasn’t proven it can thrive there. Plus, regular investors usually can’t buy at the initial offer price—it’s reserved for big institutions or clients of selected brokerages.

If you’re thinking of buying IPO shares, look closely at the company’s prospectus, its business model, financials, and long-term growth potential. Also, think about your own financial goals and risk tolerance.

Can Anyone Invest in an IPO?

Technically, yes—but not always. Shares are often limited and in high demand, so many regular investors may not get access. Some brokerages offer IPO shares to their top clients. Another way to invest in IPOs is through mutual funds or ETFs that focus on new offerings.

Who Gets the Money?

Most of the money raised in an IPO goes to the company itself. A portion also pays for the IPO process—lawyers, accountants, underwriters, etc. Early investors who sell shares during the IPO also make money.

Are IPOs a Good Investment?

They can be, but there’s no guarantee. IPOs often get a lot of media attention, and prices can jump or crash quickly. Some investors make great returns, others don’t. It’s best to approach IPOs with a bit of caution and do your homework.

Also Read: What are the Best Value Stocks to Consider Right Now?

How Is an IPO Priced?

Pricing is handled by underwriters, who estimate the company’s value based on future growth, past performance, market demand, and similar companies. Newer companies may not have much of a track record, so the price is often based on best estimates. Once trading begins, supply and demand will determine the stock’s real value.