Understanding Book Building process | Methods | Steps involved

What is book building process?

It is a process used in IPOs for efficient price discovery. The price at which securities would be offered is not known initially. It is known only after the closure of the book building process. It is a common method of marketing of new issues in several developed countries. In book building method, the market discovers the price instead of the company determining the price.

No price is fixed for the shares; instead, the company fixes a price band at which a share can be sold. The maximum price cannot be more than 120% of the floor price. Bids are then invited for the shares. The IPO should be kept open for a minimum of three days and bids are invited during this period. Investors can bid at the floor price or within the price band. The actual price of the share is arrived at depending on the number of bids (depending on the price band) received from investor.

The Lead Manager known as the Book runner determines the level of interest from investors at various price levels and obtains commitments. As the book is being built, the demand at various prices can be known and investors can submit their bids accordingly.

Bids are collected from investors during the IPO period. The bids may be above or at the floor price. The offer price is then finalized based on the bids received and is fixed after the bid closing date.

Methods of book building

There are two methods of book building. They are the:

  1. Open book system and
  2. Closed book system

Open book system: In this system, the issuers and merchant bankers are required to ensure online display of the demand and bids during the bidding period. The investors can know the movement of the bids during the period in which the bid is kept open.

Closed book system: In this case, the book is not made public. The investors will have to make bids without having any information of the bids submitted by other bidders.

Steps involved in book building process

The following are the steps involved in book building:

  1. Appointment of book runner.
  2. Advertisements.
  3. Members bid.
  4. Issue of Red herring Prospectus.
  5. Issue of Draft Prospectus to institutional buyers.
  6. Analysis of bids.
  7. Firming cf underwriting contracts.
  8. Submission of prospectus to the ROC (Registrar of Companies)
  9. Collection of application forms with money.
  10. Allotment of securities.

The company has to issue a Red herring Prospectus. The Red herring Prospectus contains the name of the book runner and the price band within which securities are offered. It however does not contain the exact price of the securities offered and the quantum of securities offered. The book runner closes the order book in consultation with the issuing company. The final price of the issue is decided jointly by the book runner and the issuing company.