What is the difference between book building and fixed price IPOs?

When a company decides to go public and raise capital through an Initial Public Offering (IPO), it can choose between two methods for pricing its shares: Book Building and Fixed Price. These two methods differ in terms of how the price is determined and how investors participate. In this blog, we’ll explain the key differences between Book Building and Fixed Price IPOs.

1. What is a Fixed Price IPO?

In a Fixed Price IPO, the company sets a predetermined price for its shares before the issue opens. This price is decided by the company and its advisors based on various factors such as the company's financial performance, market conditions, and investor sentiment. Investors can apply for the shares at this fixed price during the IPO subscription period.

The Fixed Price method is straightforward, as the investor knows the exact price they will pay for the shares. However, the company does not have the flexibility to adjust the price based on investor demand during the offering.

2. What is a Book Building IPO?

In a Book Building IPO, the company does not fix the price of the shares in advance. Instead, it provides a price range within which the shares will be offered. Investors can place bids within this range, and the final price at which the shares are allotted is determined based on demand during the subscription period.

The Book Building process allows the company to adjust the price based on investor interest, ensuring that the shares are priced at a level that reflects the market's demand. This method is generally considered more efficient in finding the "market price" for the shares.

3. Key Differences Between Book Building and Fixed Price IPOs

• Pricing Method: In a Fixed Price IPO, the price is fixed by the company, while in a Book Building IPO, the price is determined based on investor demand within a specified price band.
• Flexibility: Book Building offers more flexibility because the final price is set based on the demand from investors. In contrast, the Fixed Price method does not allow for any adjustments after the price is set.
• Investor Participation: In Fixed Price IPOs, investors apply at the same fixed price. In Book Building IPOs, investors can bid within the price range, with the final allotment price decided based on the bids received.
• Market Sensitivity: The Book Building process is more sensitive to market conditions and investor demand, making it easier for the company to determine the most suitable price for its shares. Fixed Price IPOs do not offer this advantage.
• Price Discovery: In Book Building, price discovery happens during the bidding process, reflecting the true market value. Fixed Price IPOs have a predetermined price set before the offering.
• Popularity: Book Building IPOs are generally preferred by companies and investors because they provide more accurate pricing and better investor engagement. Fixed Price IPOs are usually simpler but may not be as effective in capturing the market's interest.

4. Advantages and Disadvantages of Fixed Price IPOs

• Advantages: Fixed Price IPOs are simple, easy to understand, and have a set price for investors to apply. It’s a more transparent process.
• Disadvantages: The price may not reflect investor demand or market conditions, potentially leading to underpricing or overpricing.

5. Advantages and Disadvantages of Book Building IPOs

• Advantages: Book Building allows for flexible pricing based on investor demand, leading to more accurate price discovery. It can result in better market reception for the shares.
• Disadvantages: It is a more complex process and requires more time and resources to execute. There is also a possibility of pricing volatility during the process.

6. Conclusion

In conclusion, both Book Building and Fixed Price IPOs are valid methods for a company to go public, but each comes with its unique set of advantages and challenges. The choice between these two methods depends on the company's goals, market conditions, and the level of investor engagement it desires. Book Building is more popular due to its flexibility and better price discovery, while Fixed Price IPOs are simpler but may not capture the true market value of the shares. Understanding these differences will help investors make informed decisions when applying for IPOs.