Flotation in the stock market: Methods, advantages and disadvantages

The need for funds is never ending in a business. While using owner’s funds is always an option, companies can also take the funds from the public. The process of a company turning public and issuing shares to the public is known as flotation. 

It is a viable option for companies to get funding to carry on their functioning smoothly. In this article, we will look at what is flotation, the flotation process, and its pros and cons. 

What is flotation and how does it work? 

Flotation is a process in which a previously privately owned company goes public and issues new shares to meet its financial requirements. The process of flotation requires the hiring of an investment bank as an underwriter. They play an important role in drafting the prospectus for issuing shares, setting up the price of the share, and executing the documentation process. 

A roadshow takes place before the IPO to persuade potential investors and also determine the total number of shares to be issued and their price. 

You must also consider the cost of flotation, such as legal expenses, registration charges, underwriting costs, audit charges, and underwriting costs. 

Methods of flotation 

There are different methods of flotation. These include: 

1. IPO

Initial Public Offering (IPO) is one of the most common forms of flotation. In this, companies offer their shares to the public for the first time. The investors become partial owners of the company in this case. Current investors can also exit their investments through IPO by providing them to the general public. However, this method of flotation includes several costs and can be expensive. 

2. Offer through prospectus

Another way companies can reach potential investors is by issuing a prospectus and publishing it in advertisements and magazines. The prospectus contains all the necessary information about the securities that are being offered for sale. It includes the purpose of the issue, the future aspirations of the company, and the current financial position of the company. The prospectus must follow the SEBI guidelines. 

3. Offer through sale 

Offer through sale is another flotation method in which the offer is not made directly. Instead, the companies sell the securities to intermediaries who, in turn, sell these securities to individuals who are interested. The sale made to the intermediaries takes place at a predetermined price. 

4. Private placement

The private placement is aimed at institutional investors and some individual investors.  The private placement is a relatively inexpensive way of raising funds and does not require underwriter expenses. This flotation method is also comparatively quick. 

5. Rights issue

Under this type of flotation method, the existing investors are offered new shares, which they can prescribe based on the proportion of the shares they hold. Once this process is complete, the shares are offered to the general public. 

What are the benefits of flotation?

There are several benefits of flotation that make it the choice of numerous companies looking for funds. These include: 

1. Access to huge funds

A company requires funding for several purposes, such as growth and development, launching new services, etc. They can get access to huge funding through the flotation process. They can issue shares to the general public and get funds in exchange for giving away part ownership of the company. 

2. Better debt-to-equity ratio

Debt accounts for the debt instruments and loans taken by the company. An excess of this type of function can harm businesses’ debt-to-equity ratio. The flotation method allows businesses to raise funds by equity, which improves their debt-to-equity ratio. 

3. Exposure to the public

When shares are issued to the public, there is immense publicity for the company. The prospectus also contains details about the company’s operations and future actions. This helps in increasing exposure to the public and earning a name for the company. 

4. An exit for existing investors

Lastly, an IPO provides an opportunity for existing investors to exit their investments by selling their shares to the general public during the IPO. They can then use their money to invest elsewhere or just liquidate their investments. 

Drawbacks of flotation 

While there are numerous benefits, there are also certain drawbacks of flotation to consider. These include: 

1. Flotation cost

The flotation process can be expensive for companies because of numerous flotation costs, such as underwriting fees, registration costs, legal fees, and administrative expenses. 

2. Audit requirements

Once the company becomes a public company, it is important for businesses to disclose their audited financial statements. The operations of the public company must be more transparent, and they must maintain good investor relations. These things become an added responsibility for the company. 

3. Regulatory constraints

After going public, the company will be subject to regulatory constraints from the Securities Commission. There will also be certain management restrictions to adhere to. 

Conclusion 

Floatation is a good way for businesses to get funds to fulfil their requirements. There are different ways in which companies can choose to raise funds from the public, such as IPO, offer through prospectus, offer through sale, private placement, and rights issues based on their requirements and costs involved. 

However, keep in mind that you must thoroughly understand the pros and cons of raising money through flotation before going ahead with the process. To know more, stay tuned to StockGro. 

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