Book Building

A company can become a public entity in India by bringing its IPO. You might have encountered IPOs with a fixed share price. However, companies can also prefer book building issues, where prices are not fixed. This type of issue helps determine the share price based on investors’ bids.

What is Book Building?

Book building is a method used in Initial Public Offering (IPO) or bond issuances to determine offering prices. It involves soliciting bids from institutional investors, who specify the quantity and price they’re willing to pay for the securities. The issuer sets a price range, and the final offering price is determined based on investor demand.

It facilitates price discovery and allows for greater participation from institutional investors, enhancing market efficiency. Once complete, securities are allocated to investors based on their bids. This method contrasts with fixed-price offerings, as the price is determined based on investor interest rather than predetermined.

How Does It Work?

Now that you understand the book building meaning, let us discuss how it works.

  1. Hiring an Underwriter

    Companies usually hire investment banks as underwriters for IPOs. An underwriter will help determine the size. It will also help determine the price range for an issue. Investors will place bids within the provided price range by the issuer.

  2. Bidding

    The underwriter and the issuer will invite investors to bid. Investors will submit their bids for IPO shares based on the provided range.

  3. Deciding the IPO Price

    The underwriter maintains an order book, which records all bids from investors. Usually, underwriters rely on the weighted average method to determine the right IPO price.

  4. Allotment

    The IPO price is determined after all bids are accepted. Investors whose bids are accepted are allotted IPO shares. Investors who bid more than the cut-off price receive the excess money back.

Types of Book Building

A book building issue can be conducted in two ways, which are as follows:

  • Accelerated Book Building

    It occurs when companies require immediate access to capital. The company contacts an investment bank to perform underwriting tasks. The investment bank uses its network to find institutional investors or High Net Worth Individuals (HNIs). These investors submit their bids, and allotment occurs in quick succession.

  • Partial Book Building

    The issuer or underwriter might invite only selected investors to a partial book-building issue. The final IPO price is determined based on the weighted average of bids. The issuer then invites retail investors to apply for the IPO. Retail investors will treat the IPO as a fixed-price issue, as the cut-off price has already been decided. Bidding occurs within selected investors in a partial book-building issue.

Book Building Process of IPO

Investors must understand the process of book building IPOs.

    1. Finding an Underwriter

      As discussed above, the issuer starts by hiring an underwriter. The underwriter can be an investment bank that helps determine the right book building IPO size. It will help define the price range for investors to place bids. The underwriter will also help determine the right IPO price after receiving bids.

    2. Inviting Investors for Bidding

      Investment banks help companies gain access to investors. The underwriter will invite institutional investors, HNIs, UHNIs, and others to place bids. Investors will bid on the number of shares and the IPO price. Investment banks use their connections to invite interested investors. A company issuing its IPO might have different connections to invite institutional investors. Once the cut-off price has been determined, the underwriter can help issue an FPO for retail investors.

Additionally Read: IPO Process in India

  1. Book Building Step

    The underwriter records all bids in an order book. After receiving all bids, the underwriter determines the cut-off price. Underwriters rely on the weighted average technique to determine the cut-off price for the IPO. This technique involves allocating weights to each bid. It helps determine the intrinsic value of the security based on investor demand.</li

  2. Allotment

    Once the cut-off price has been determined, the issuer starts the allotment process. Investors with bids equal to or above the cut-off price receive IPO shares. Investors with bids above the cut-off price will receive the excess money back. On the other hand, investors with bids below the cut-off price will not be considered for allotment. In the case of a partial book building, the issuer will launch a fixed-price offering after accepting bids from only selected investors. Retail investors do not submit their bids to the issuer in such a case.

  3. Additionally Read: How to Check IPO Allotment Status?

Significance of Book Building

Now that you understand the book building process, let us discuss its significance:

  • Determining the Intrinsic Value of Shares: Companies can find the intrinsic value of their IPO shares by allowing investors to submit their bids. An issuer can determine the fair value for their securities based on investor demand.

  • Highly Transparent: This issue is highly transparent to support informed decision-making. One can track the changes in the order book and see the bids submitted by investors. One can observe the demand for IPO shares and invest in IPO accordingly.

  • Generates Demand: This issue helps companies generate demand and interest among investors. As investors submit their bids, others can track the changes in the order book. When bids arrive, the demand for this IPO increases in the market, thus attracting more investors.

Advantages of Book Building

One must be aware of the benefits of book building, which are as follows:

  • It helps determine the intrinsic value of the security based on investor demand. It is an effective technique for determining the fair value of the stock.

  • This issue helps companies get the highest possible price for their shares. Since investors try to submit high bids, companies get to increase their share price.

  • It can help companies gain quick access to capital.

  • The price of a book building issue is pre-decided before reaching retail investors, so there is no confusion regarding the pricing when the issue reaches retail investors.

  • Since book building is based on demand, the issuer saves on marketing costs. However, the issuer will pay the underwriter for their services.

  • The IPO price is determined based on the demand in the market. There is a lower chance of the market price falling below the issue price after listing.

Disadvantages of Book Building

  • It is more suited to major or high-value issues. It is suited to companies requiring more funds from institutional investors or HNIs. Small companies might opt for minor issues or private placements to secure funds.

  • It might not be suited for retail investors. Many retail investors fail to meet the conditions of a book building issue. However, retail investors can always apply for a partial issue after deciding the cut-off price.

  • This type of issue might only be open to some investors. For instance, an accelerated issue will only consider institutional investors, HNIs, UHNIs, and other wealthy entities.

  • The underwriting process for a book building issue might be more complex than that of a fixed-price offering.

Difference Between Book Building and Reverse Book Building

Book Building Reverse Book Building

It is a technique to determine the right value of IPO shares.

It is a technique used to determine the right price to buy back shares from existing shareholders in case of delisting.

It is used when companies launch IPOs (Initial Public Offerings).

It is used during delisting or share buyback programs.

It involves investors bidding for the price of IPO shares.

Shareholders tell about the prices at which they are willing to sell shares.

This technique helps finalise the IPO issue price for shares.

It helps determine the price at which shares are bought back from shareholders.