India’s market capitalization is $3.46 trillion, making NSE the world’s 10th largest stock exchange. Thousands of stocks are being traded in the market, not just in India but on various exchanges globally daily. Some of these stocks have been here since the early ages of the stock market, while many stocks are new and have entered the market in the previous decade or the last few years. The synergies and fluctuations of the market due to buying and selling of equities compose an essential part of our financial ecosystem.
Hence it is good for us to understand what equity issuance is and, more importantly, who issues equities and what role they have to play in the equity issuance scenario. Let’s deep dive step by step to understand further.
What is equity issuance?
The sale of new stock or equity to investors by the company is called equity issuance. Equity issuance is usually done to raise capital. It can involve a public sale in the form of IPOs and a private sale where the transaction is direct between the parties. The investors buy these equities; however, let us look at the stakeholders involved in its issuance.
Who issues equities?
Companies or firms issue equities. Companies issue equities in various forms. When the company issues equities publicly, it requires the company to register them with the authorities, and registered investors buy them in the organized market.
Companies issue equities by releasing Initial Public Offering (IPO), where fresh shares are issued that registered investors can buy. This issue process involves the company’s management, professional advisors such as investment banks, internal counsel, underwriters, personnel from PR, marketing, and investor relations team. Companies issue these equities after following thoroughly established guidelines from the government and adhering to all the legal formalities.
The equities issued in the form of additional shares to raise capital for expansion of business are also raised by the company. These are called secondary equity offerings. The company directly receives the capital raised from this. This leads to the investors engaging further with the company and the company financing itself for growth. For example, Company XYZ may issue additional shares worth 50 crores to the public. Company XYZ will directly receive the proceeds from this.
Companies also issue equity in the form of private sale that consists of a direct issue of equity from the firm to the investors.
What do companies consider while issuing equity?
Companies issue these equities while considering their business goals and how the issue of equities would contribute to the company’s capital structure, which comprises debt and equity. For a company, dividend payments are the cost of issuing equity. However, the company doesn’t have an obligation to pay dividends. Companies issue stock after considering various factors since there is a limit to issuing equity by the company. Issuing equities may lead to a rise in the company’s value, and in case of additional issue, its share price. However, if equities are issued beyond a limit, it may also result in dilution of equity which can be a problem.
Role of investment banks in equity issuance
Investment banks such as Morgan Stanley, Goldman Sachs, JP Morgan play a crucial role in equity issuance by offering different services. In case of issuance of equity through IPO, investment banks conduct due diligence of the IPO process; they study the company, its financials, characteristics, associations, and prospects to determine the value of the issuance and the minimum purchase price for the investors. They also get the prospectus filed and approved by the Securities Exchange Board of India (SEBI). They are also responsible for attracting investors, communicating how it would benefit them, and offering post IPO listing support. When a company issues equities through IPO, which investment bank it is associated with also decides the reputation of the issuance.
For example, the government has picked 10 merchant banks including Goldman Sachs, Nomura, Citigroup Global, etc for the LIC IPO that has an issue size of Rs 80000 crores.
Investment banks also have a role in the issue of stocks in the secondary public offering.
They provide underwriting services to assess the risk associated with the new issue. They buy all the shares or part of shares of the IPO and then resell it to the public. If the risk is determined too high by the underwriter, then the equity issuance may not go through. In the case of the company issuing equity for an IPO, the underwriter also gets a premium or profit for the service they provide.
The investors benefit from the due diligence and expertise of the investment banks as it helps them make an informed decision and enables them to trust the companies.
Conclusion
Equities form a big part of our financial market. It is crucial to understand who issues them so the investor can make decisions based on complete information and widen the scope of their domain knowledge. We also explored the role investment banks play in issuing equities, which helps us understand their functions that can be applied in the practical world to analyze an equity issue. Companies achieve their short-term or long-term goals by issuing these equities, which eventually leads to an increase in profits of the company and shareholders and contributes to the economy’s growth.
