Book building is a process used by companies to determine the demand for their securities before the actual offering. It is a modern way of issuing securities that allows companies to efficiently raise capital while also setting an appropriate price for their securities. The book building process is widely used for public offerings of stocks, bonds, and other securities.
The basic concept of book building is to gather information from investors about their interest in buying the securities being offered. This information is then used to determine the demand for the securities, which in turn helps the company to set the final price of the securities. Book building is a very important process for companies because it allows them to understand the market’s appetite for their securities, which helps them to make informed decisions about pricing and other related matters.
Process of Book Building:
1. Appointment of Merchant Banker
In the book building process, the company first appoints a lead merchant banker also called book running lead manager. This banker plays a key role in managing the entire public issue. The company prepares a draft prospectus containing company details, financial performance, risk factors, and proposed price band. This draft is submitted to SEBI for approval. The merchant banker decides the size of issue, price band, and timing of the issue. They also appoint other intermediaries like registrars, bankers, and underwriters. The main aim at this stage is to ensure legal compliance and proper disclosure so that investors get correct and transparent information before applying.
2. Price Band and Bidding by Investors
After SEBI approval, the company announces a price band within which investors can bid. Investors submit bids stating the number of shares and price they are willing to pay. Bidding is done through stock exchanges during a fixed period. Different categories like qualified institutional buyers, non institutional investors, and retail investors place their bids. The demand at various prices is recorded in an electronic book. This process helps in knowing the actual demand for shares. Retail investors can also apply at cut off price. The objective of this stage is price discovery based on market demand rather than fixing a single price in advance.
3. Final Price Fixation and Allotment
After the bidding period ends, the book is closed and total demand is analysed. Based on the highest demand price, the final issue price is decided. This is known as cut off price. Shares are then allotted to investors according to SEBI guidelines. In case of oversubscription, shares are allotted proportionately. Refunds are made to unsuccessful applicants and excess money is returned. Finally, shares are credited to investors demat accounts and the company gets listed on the stock exchange. This stage completes the book building process and ensures fair pricing, transparency, and efficient capital raising for the company.
Advantages of Book Building:
- Efficient Pricing:
The book building process helps companies to efficiently price their securities based on the demand from the investors. This helps to ensure that the securities are priced correctly, and the company is able to raise the required capital.
- Transparency:
The book building process is transparent, and all investors have access to the same information about the securities being offered. This helps to create a level playing field for all investors, and reduces the chances of any insider trading or market manipulation.
- Wide Investor Base:
The book building process allows companies to reach a wide investor base, including institutional investors such as mutual funds, pension funds, and hedge funds. This helps to increase the demand for the securities and ensures that the company is able to raise the required capital.
- Flexibility:
The book building process is flexible, and allows companies to tailor the offering to meet the specific needs of the investors. For example, the company can offer different types of securities, such as equity shares, preference shares, or convertible bonds, depending on the demand from the investors.
- Speed:
The book building process is faster than traditional methods of issuing securities, such as a fixed price offer or a public auction. This helps companies to raise capital quickly and efficiently.
Disadvantages of Book Building:
- Complexity:
The book building process is complex and requires a high level of expertise and knowledge. This can make it difficult for small companies or companies with limited resources to participate in the book building process.
- High Costs:
The book building process is expensive, as it involves hiring an investment banker, conducting due diligence, and preparing an information memorandum. This can make it prohibitively expensive for small companies or companies with limited resources to participate in the book building process.
- Lack of Control:
The book building process gives investors a greater say in the pricing and allocation of the securities. This can reduce the company’s control over the pricing and allocation process, and may result in a lower price for the securities
Book Building example:
Suppose ABC Ltd wants to issue 10,00,000 equity shares to the public through book building.
The company fixes a price band of ₹90 to ₹110 per share and opens the issue for bidding.
During the bidding period, investors place bids as follows
At ₹90 for 2,00,000 shares
At ₹100 for 4,00,000 shares
At ₹110 for 6,00,000 shares
Total demand becomes 12,00,000 shares, which is more than shares offered. The highest price at which required shares are covered is ₹110. So ₹110 becomes the cut off price.
Shares are allotted on pro rata basis and excess application money is refunded.
