Last updated on October 23rd, 2024 at 05:02 pm
Introduction to Primary Market
A stock market is a place where all the public companies are traded. The share price of these companies changes every second. Have you ever wondered how these companies are listed on the market? In this article, let us go through the initial phase of a company before it gets listed on the stock market.
What is the Primary Market?
The primary market is a financial market which deals with the issue of new securities. New companies and institutions obtain funds through the sale of these securities. For a transaction to take place, three entities should be involved, a company, an investor and an underwriter. A company issues equity (shares) in the primary market through an IPO (Initial Public Offering). The underwriter facilitates and monitors this new issue. Investors may purchase these newly issued securities through the primary market. This market is regulated and supervised by the Securities Board of that respective country [1].
Functions of the Primary Market
The essential functions of the primary market are:
New Issue Offer:
Issuing new securities is one of the main functions of the primary market. This market organizes the offering of the new issue which has not been publicly traded at any other exchange. This is why the primary market is also known as the New Issue Market (NIM). The organising new issue offers involves a detailed assessment of project viability.
Underwriting services:
Underwriting is an essential task while the new issue offer. The underwriter has the primary task of purchasing the unsold shares if the company does not manage to sell the required number of shares to the public during the issue. A financial institution may act as an underwriter, earning a commission on underwriting. Investors are dependent on underwriters to determine whether undertaking the risk would be worth its returns. It may so thus happen that an underwriter ends up buying all the IPO issue, and subsequently selling it to investors.
Distribution of New Issue:
The distribution is carried out after the issue of new securities. It invites the public investors at large to buy a new issue and provides detailed information regarding the company.
Types of Issuances in the Primary Market
After the issuance of securities, investors can purchase the securities in various ways. There are five types of primary market issues listed below [2] [3]:
Public Issue
Public issue is one of the common methods of issuing securities to the public. This public issue is done through an IPO (Initial Public Offering), where the companies raise capital for businesses. A private limited company can become a publicly-traded company through an IPO. As per guidelines, the Securities Board of the respective country is the regulatory board that monitors the IPO process.
Private Placement
When a company offers its securities to a small group of investors, it is called a private placement. The securities issued in private placements may be bonds, stocks or other securities and the investors can be both individuals as well as institutional. Private placements are much easier to issue then IPOs as it costs much less and requires less as well. Search types of issuances are beneficial for start-ups and small businesses which are in their early stage.
Preferential Issue
Preferential issuance is one of the quickest ways which companies can use to raise capital for their businesses. Both listed and unlisted companies can take part in preferential issuance. It is very important to note that preferential issues are neither public nor rights issues. In the preferential issue, the preference shareholders are paid dividends before ordinary shareholders.
Qualified Institutional Placement
This is another type of fundraising used by listed companies to raise capital by issuing securities to Qualified Institutional Buyers (QIB). Qualified institutional buyers have the expertise and financial knowledge to invest in the capital markets. These buyers are registered with the Securities board, public financial institutions and scheduled commercial banks. Some QIBs are Foreign Institutional Investors (FII), foreign venture capital investors, alternate investment funds, mutual funds, public financial institutions, insurers, pension funds, etc.
In Rights and Bonus issuance, the company issues new securities to existing investors by offering them to purchase the securities at a fixed price or they are allotted additional shares free of cost. For right issues, investors have the choice of buying stocks at a discounted price within a specific period. For bonus issues, stocks are issued by the company as a gift to its existing shareholders.
Conclusion
When you invest in stocks, keep an eye on the primary market as well. This is because IPOs can have great potential to offer big returns to investors. With this information regarding the primary market, individuals can make a well-thought-out decision regarding investment in the market. It also makes way for the creation of an investment portfolio with diversified risk.
References
[1] | J. Chen, "Primary Market," Investopedia, [Online]. Available: https://www.investopedia.com/terms/p/primarymarket.asp. [Accessed 23 September 2021]. |
[2] | "Primary Market," Groww, [Online]. Available: https://groww.in/p/primary-market/. [Accessed 23 September 2021]. |
[3] | "What Is Primary Market?," Edelweiss, [Online]. Available: https://www.edelweiss.in/investology/introduction-to-primary-market-79a025/what-is-primary-market-977a08. [Accessed 23 September 2021]. |
