Primary Market/New Issues Market

Primary Market/New Issues Market

When a new company is floated, its shares are issued to the public in the primary market as an Initial Public Offer (IPO). If the company subsequently decides to include debt in its capital structure by issuing bonds or debentures, these may also be floated in the primary market. Similarly, when a company decides to expand its activities using either equity finance or bond finance, the additional shares or bonds may be floated in the primary market.

The primary market or new issues market (NIM) does not have a physical structure or form. All the agencies which provide the facilities and participate in the process of selling new issues to the investors constitute the NIM.

The NIM has three functions to perform. They are:

Origination

Underwriting

Distribution.

Origination

Origination is the preliminary work in connection with the floatation of a new issue by a company. It deals with assessing the feasibility of the project, technical, economic and financial, as also making all arrangements for the actual floatation of the issue. As part of the origination work, decisions may have to be taken on the following issues:

Time of floating the issue

Type of issue

Price of the issue.

Timing of the issue is crucial for its success. The floatation of the issue should coincide with the buoyant mood in the investment market to ensure proper support and subscription to the issue. The type of issue whether equity, preference, debentures or convertible securities, has to be properly analysed at the time of origination work. Pricing of the issue is a sensitive matter, as the public support to a new issue will depend on the price of the issue to a large extent. In the primary market, the price of the security is determined by the issuer and not by the market. New issues are made either at par or at premium. Well-established companies may be able to sell their shares at a premium at the time of a new issue. Further, the pricing of new issues is also regulated by the guidelines on capital issues issued by SEBI.

The origination function in the NIM is now being carried out by merchant bankers. In the 1980s, commercial banks in India created special divisions called merchant banking divisions to perform the origination function for floatation of new issues. But now there are separate institutions registered with SEBI as merchant bankers.

Underwriting

The second function performed by NIM is underwriting which is the activity of providing a guarantee to the issuer to ensure successful marketing of the issue. An underwriter is an individual or institution which gives an undertaking to the stock issuing company to purchase a specified number of shares of the company in the event of a shortfall in subscription to the new issue. The stock issuing company can thus ensure full subscription to the new issue through underwriting agreements with different underwriters, even if there is no proper response to the new issue from the investors. Underwriting activity in the NIM is performed by large financial institutions such as LIC, UTI, IDBI, IFCI, general insurance companies, commercial banks and also by brokers. The underwriters earn commission from the issuing company for this activity.

Distribution

The new issue market performs a third function besides the functions of origination and underwriting. This third function is that of distribution of shares. The distribution function is carried out by brokers, sub-brokers and agents. New issues have to be publicised by using different mass media, such as newspapers, magazines, television, radio, Internet, etc. New issues are also publicized by mass mailing. It has become a general practice to distribute prospectus, application forms and other literature regarding new issues among the investing public.