From time to time companies need funds to operate and expand their business. As a result, they turn to public investors to source these funds. Now there are two ways a company can do this; by means of an IPO and an NFO. For a shorter answer, the difference between an IPO and NFO is simple; in an IPO, the company offers its shares to the investors whereas, in an NFO, fund units are offered to investors. For a longer answer drawing out distinctions and similarities between the two, read on!

What Is An IPO?

Initial public offering (IPO) or stock market launch is the process by which a company can go public by sale of its stocks or equities to the institutional investors and usually also retail or individual investors. 

It could be a start-up, young company or an old company that decides to be listed on an exchange and hence goes public.

One or more investment banks underwrite an IPO. Also, these banks arrange for the stocks to be listed on one or more stock exchanges. The company which offers its stocks, known as an ‘issuer’. Through this process, a privately held company is transformed into a public company and colloquially known as floating or going public.

IPO can be used to

  • Raise new equity capital for the company, 
  • To monetize the investments of private shareholders such as promoters, company founders or private equity investors, and 
  • To enable easy trading of existing holdings or future capital raising by becoming publicly traded.

After the IPO, the company’s shares are traded freely in the open market at what is known as the free float. Those shares can be further sold by investors through secondary market trading.

Stock exchanges stipulate a minimum free float both in 

  • Absolute terms: the total value as determined by the share price multiplied by the number of shares sold to the public and 
  • As a proportion of the total share capital: the number of shares sold to the public divided by the total shares outstanding. 

Details of the proposed offering are disclosed to potential investors in the form of a lengthy document known as a prospectus. 

Although IPO offers many benefits, there are also significant costs involved, chiefly those associated with the process such as banking and legal fees, and the ongoing requirement to disclose important and sometimes sensitive information.

Indian Stock Markets are also emerging as a leading IPO market in the world. As many as 183 IPOs hit the Indian stock market in 2018 and raised $ 11.6 billion.

What Should You Keep In Mind Before Investing In An IPO?

1.Knowing as much as you can about the company going public is a crucial first step

2.But getting information on companies set to go public is very tough. Unlike most publicly traded companies, private companies do not usually have swarms of analysts covering them, attempting to uncover possible cracks in their corporate structure. Even though most companies try to fully disclose all information in their prospectus, it is still written by them and not by an unbiased third party.

3. Try to select an IPO that has a strong underwriter—a major investment firm.

4. Always read the new company’s prospectus.

5. Be skeptical if a broker is pitching an IPO too hard.

What Is NFO? 

A New Fund Offer (NFO) is similar to an IPO, except, in this case, it is an Asset Management Company (AMC) that launches a new scheme to raise capital. 

AMCs use this money to buy securities like equity and bond. These companies mostly launch new mutual fund schemes during a new fund offer (NFO).

AMCs offer NFOs for a specific period only and investors can opt for them at a specific stipulated price, known as offer price, during this period.

In this period, the investors may purchase units of the mutual fund scheme to subscribe to the NFO at an offer price. This is usually fixed at Rs 10. Once this tenure expires, the investors would be able to purchase the units of the fund at the offer prevailing at the time. Usually, NFO subscribers have found to experience significant gains after listing.

Once the NFO period is over, investors can get these funds at the prevailing net asset value (NAV) of the fund.

Things To Know About An NFO

  1. An NFO can give you new opportunities to diversify your investment portfolio
  2. NFOs offer new and unique investment ideas or themes
  3. Investors looking for liquidity can invest in open-ended NFOs, as you can purchase or sell your NFO units anytime.
  4. NFOs are usually launched as limited period offers and can often prove to a very profitable investment

How Do They Differ?

There are many differences between an Initial public offering (IPO) and an NFO. Some of them are tabulated below :-

Parameters  IPO  NFO 
Definition First time that a private company’s stock is offered to the public First time a new fund scheme is open for subscription
Simple IPO is for a new stock NFO for a new mutual fund.
Valuation Company’s valuation is very important and is measured by the price-to-earnings (P/E) and price-to-book (P/BV) ratios. Also, it is critical in determining the listing price and the offer’s attractiveness. Valuations are irrelevant for NFOs as the funds collected are just split into units and invested in the markets.
Pricing IPO are priced based on the issuing company’s business fundamentals and attractiveness of the valuation. NFO are usually launched at a face value of Rs. 10 and this does not matter as the NAV is decided depending upon the prevailing market conditions at the time of launch.
Listing IPOs are list on the stock market above or below the price band set initially, giving investors a chance to make handsome gains in case the prices shoot up on the day of listing. They simply launch after the funds raised have been invested in the market. The initial NAV of a fund may be Rs. 10 or less, considering administrative and marketing costs.
Usage of funds Companies raise the funds to expand their business or reduce the promoters’ stake  AMCs use this money to buy securities like equity and bond

Conclusion

Both IPO and NFO are similar as both represent attempts to raise capital to further operations. Both have the potential to reap great gains if invested in wisely. Before investing in any of these avenues, make sure you have your research in place. Only invest after knowing and satisfying yourself with all the details and familiarizing yourself with the risks involved.. If you want higher returns and have medium to high risk-taking appetite, then you can go for an IPO. But if you have medium to low risk-taking appetite, then NFO would be a better bet. Either way, invest with prudence and patience. 

Happy Investing!

Disclaimer: The views expressed in this post are that of the author and not those of Groww