What Is an IPO? A Clear, No-Nonsense Guide to Initial Public Offerings • Investing.ad

An IPO can turn a little-known startup into a headline giant overnight. But behind the buzz, what actually happens?

Let’s strip it down to how it really works, who gains, and what you should watch before buying into the hype.

What Is an IPO, Really?

IPO stands for Initial Public Offering.

In simple terms, it’s the moment a private company sells its shares to the general public on a stock exchange for the first time.

Before an IPO:

The company is owned by a relatively small group: founders, early employees, venture capital firms, sometimes private equity funds.
Shares are not easily tradable. You can’t buy them on your brokerage app.

After an IPO:

The company’s shares trade on exchanges like the NYSE or Nasdaq.
Anyone with a brokerage account can buy and sell those shares.
The company becomes a public company, with new reporting rules, scrutiny, and obligations.

At its core, an IPO is a way to raise money and give early investors and employees a path to cash out—but it also changes the company’s life forever.

Why Do Companies Go Public?

Going public is expensive, time-consuming, and stressful. So why do it?

1. Raise a Large Amount of Capital

The main reason: money.

An IPO allows a company to raise hundreds of millions, sometimes billions, in cash by selling new shares to investors. That cash can be used to:

Fund expansion into new markets
Invest in research and development
Acquire other companies
Pay down debt
Build brand awareness

Instead of borrowing more or relying only on private investors, a public company taps a huge pool of capital from institutions and everyday investors.

2. Give Early Investors a Way Out

Early backers—like venture capital firms, founders, and employees with stock options—often can’t easily sell their shares while the company is private.

An IPO:

Creates a public market price for the stock.
Opens the door for them to eventually sell some of their holdings.
Offers a visible “exit” that can turn paper gains into real money.

They might be subject to lock-up periods (more on that soon), but the path to liquidity becomes clear.

3. Use Shares as a Currency

Once public, a company can:

Pay for acquisitions with stock instead of cash.
Attract and retain talent using stock-based compensation (RSUs, stock options).
Build a publicly traded currency that others can easily value.

That public stock price becomes a common reference point for deals, compensation, and strategic moves.

4. Brand Prestige and Transparency

Listing on a major exchange means:

More media coverage
More analyst reports
Greater public recognition

That visibility can help the company:

Win new customers
Build trust with partners
Recruit experienced executives and board members

But this comes with a trade-off: intense scrutiny, quarterly results pressure, and expectations to deliver consistent growth.

What Changes When a Company Goes Public?

The day before the IPO and the day after are technically separated by just one trading session—but in governance terms, it’s like entering a different universe.

Heavier Regulation and Disclosure

Public companies must:

File quarterly and annual reports (like 10-Q and 10-K in the U.S.).
Reveal key financials: revenue, profit, cash flow, debt, major risks.
Disclose material events (lawsuits, major deals, executive changes).

This transparency helps protect investors, but it forces the company to think in public and share much more than it did before.

New Stakeholders to Answer To

Before IPO, the main voices were:

Founders
Private investors (VCs, private equity)
Early employees

After IPO, the list expands:

Large institutions (mutual funds, pension funds, hedge funds)
Retail investors
Analysts and financial media
Regulators

Every quarter, management is judged on earnings calls, guidance, and performance. Stock price becomes a constant scoreboard.

Control and Ownership Shift

Going public usually means:

Existing owners’ shares are diluted as new shares are issued.
Founders may still control a significant stake, but they’re no longer behind closed doors.
Some companies use dual-class shares to keep extra voting power with founders even while selling stock to the public.

So while an IPO raises cash and prestige, it can also chip away at founder control unless the structure is designed to prevent that.

How the IPO Process Works, Step by Step

From the outside, IPO day looks like a simple stock debut. Internally, it’s months—sometimes years—of preparation.

1. Decision and Preparation

The company’s board and leadership team decide they’re ready. Preparation includes:

Cleaning up financials
Tightening internal controls
Getting corporate governance in shape
Designing a capital structure (how many shares, which share classes)

They may also adjust strategy to appeal more to public-market investors: focus on revenue visibility, recurring income, clear profitability path, and so on.

2. Hiring Underwriters (Investment Banks)

The company hires one or more investment banks as underwriters. These are typically big names—banks known for handling major offerings.

Their role:

Advise on timing: Is the stock market receptive right now?
Help determine an estimated valuation.
Structure the deal: how many shares, price range, and who gets an allocation.
Connect the company with big investors during the roadshow.

In return, they collect underwriting fees, often a percentage of the amount raised.

3. Drafting the Prospectus

The company, with its lawyers and underwriters, prepares a prospectus (in the U.S., part of an S-1 registration statement).

This document lays out:

Business model and markets
Revenue, profit/loss, and other financial metrics
Growth strategy
Risks (competition, regulation, technology shifts, customer concentration)
Use of proceeds (what the company plans to do with IPO money)

Regulators review it to make sure investors have enough information to understand what they’re buying.

4. The Roadshow

Once the draft prospectus is filed (and updated as needed), management hits the road—literally or virtually.

The roadshow is a series of meetings with:

Large institutional investors
Hedge funds
Portfolio managers

Executives pitch the company’s story:

Why the business is exciting
How big the market is
Why now is the right time
How they plan to sustain growth

At the same time, underwriters gauge demand: how many investors want in, and at what price.

5. Setting the IPO Price

After collecting indications of interest from investors, the underwriters and company:

Finalize the offer price (the price at which new shares will be sold).
Decide how many shares to issue at that price.

This price is a balancing act:

Too high: weak demand, bad debut, possible embarrassment and lost trust.
Too low: shares may “pop” too much on day one, suggesting the company left money on the table.

The night before trading begins, the final price is set. That price applies only to the newly issued shares sold to institutions and select investors in the IPO allocation—not yet to you as a retail investor.

6. IPO Day: Trading Begins

On IPO day:

The company’s shares are listed on an exchange (e.g., ticker symbol appears on Nasdaq or NYSE).
Pre-allocated shares are already in the hands of institutional investors and others who got an allocation.
Market makers determine an opening trade price based on buy and sell orders.

This opening price can be:

Higher than the IPO price (a “pop”)
Lower (a “drop”)
Roughly the same

From that point on, the stock trades like any other listed stock. Prices move based on supply and demand, news, and market sentiment.

Primary vs Secondary Shares: Who Gets the Money?

IPOs often mix primary and secondary shares.

Primary shares: New shares issued by the company itself.
- Money goes to the company.
- Used for growth, debt reduction, working capital, etc.
Secondary shares: Existing shares sold by current shareholders (like early investors or employees).
- Money goes to those shareholders, not to the company.

Prospectuses usually spell out the split. An IPO heavily tilted toward secondary shares may raise questions: Is this mostly insiders cashing out?

Neither structure is automatically good or bad, but understanding who benefits from the sale is essential.

Lock-Up Periods: Why Many Insiders Can’t Sell Immediately

Most IPOs come with a lock-up period, often 90–180 days after listing.

During this time:

Insiders (founders, employees, early investors) can’t sell most of their shares.
The idea is to prevent a flood of shares from hitting the market right away, which could crush the stock price.

When the lock-up ends:

A new supply of shares becomes tradable.
Some insiders choose to sell, either to diversify or take profits.

Investors often watch lock-up expiration dates because:

Heavy insider selling can pressure the stock price.
But it can also be a normal, healthy step—people cashing in years of work.

How IPOs Are Priced—and Why They Often “Pop”

There’s a long-running debate in finance around IPO pricing.

Underwriters typically try to:

Set the IPO price slightly below fair market value to:
- Reward institutional clients who take on the risk of buying at IPO.
- Increase the odds of a strong first-day performance.

This can lead to an IPO pop—where the stock opens and trades well above the IPO price. That looks exciting, but it has different implications depending on who you are:

For the company, a big pop can mean it raised less money than it could have by pricing higher.
For IPO allocation buyers, it’s a quick gain—at least on paper.
For retail investors buying on day one, it can be dangerous if they’re paying a price inflated by excitement rather than fundamentals.

Not every IPO pops. Some sink right away if enthusiasm was overestimated or market conditions deteriorate suddenly.

Not every stock that appears “new” on an exchange got there via a traditional IPO.

Direct Listings

In a direct listing:

The company doesn’t issue new shares (in many cases).
Existing shareholders simply start selling their shares directly to the public.
There’s no traditional underwritten IPO price; the market finds the price via supply and demand.

This can reduce fees and avoid perceived underpricing, but it may bring more volatility at the open.

SPAC Mergers

A SPAC (Special Purpose Acquisition Company):

Is already public.
Raises money with no operating business, promising to buy a private company later.
When it merges with a target, that target effectively becomes publicly traded.

This path became popular as an alternative to IPOs, though it carries its own complexity and risk profile.

Follow-On Offerings

After an IPO, a company might later issue more shares in a follow-on or secondary offering.

This is not another IPO but a way for a public company to raise additional capital through the equity markets.

How Investors Can Get Access to IPO Shares

Not everyone can buy at the IPO price.

Institutional vs Retail Access

Typically:

Institutional investors (funds, asset managers) get the bulk of IPO allocations.
Some high-net-worth individuals and select brokerage clients may get small allocations.
Most retail investors buy on the open market once trading begins.

Some brokerages now offer limited IPO access to retail customers, but allocations are usually tiny and competition is intense.

Buying After the IPO

If you don’t get an allocation, you can:

Buy on the first day after the stock opens for trading.
Wait days or weeks for volatility to settle.
Watch key events like the first earnings report or lock-up expirations to see how the market reacts.

There’s no universal “right time,” but chasing a first-day spike without understanding the business is often risky.

Risks of Investing in IPOs

IPO stories tend to focus on overnight millionaires and eye-popping gains. The reality is more complicated.

1. Limited Track Record as a Public Company

While the business may be years old, its behavior as a public company is unknown:

Can management handle quarterly scrutiny?
Are forecasts realistic?
How will they balance growth vs profitability?

Sometimes, early quarters after IPO reveal:

Slower growth than hoped
Higher costs than feared
Competitive pressures not fully appreciated beforehand

This can crush the stock price, even if the underlying business isn’t collapsing.

2. Hype vs Fundamentals

Marketing around an IPO can be intense:

Glowing media coverage
Social media excitement
Retail investors fearing they might “miss the next big thing”

But behind the buzz, important questions remain:

Is the company profitable—or anywhere close?
Does it have a durable competitive edge?
Is revenue concentrated in just a few customers?
Is the valuation assuming flawless execution for years?

An IPO is not a guarantee of quality. It’s just a stage of a company’s funding journey.

3. Early Volatility

Newly listed stocks can be very volatile because:

There’s no long history of public trading.
Small changes in sentiment can swing price sharply.
Analyst coverage might be thin at first.

While volatility can create opportunities for traders, it can be nerve-wracking for long-term investors who bought on a wave of excitement.

4. Dilution and Future Issuances

Going public doesn’t end the story of share issuance:

Companies may issue more shares later via stock-based compensation, follow-on offerings, or acquisitions.
This can dilute existing shareholders, reducing their percentage of ownership.

Strong companies can offset dilution with genuine growth in earnings and cash flow—but it’s a factor to watch.

How to Evaluate an IPO Prospectus Like a Real Investor

You don’t need to be a Wall Street analyst to read an IPO prospectus, but you do need to know where to look.

Key areas:

Business Model and Revenue Sources

How does the company actually make money?
Is revenue recurring (subscriptions) or one-time?
Are there multiple lines of business or one core product?

Growth Metrics

Revenue growth rate year over year
Customer growth, user growth, key usage metrics
Geographic expansion

Fast growth is exciting, but you want to see how and at what cost that growth is happening.

Profitability and Cash Flow

Gross margin: How profitable is each unit of revenue?
Operating margin: What’s left after operating expenses?
Net income: Is the company making or losing money?
Free cash flow: Is cash flowing in or being burned?

A company doesn’t need to be profitable to be a compelling IPO—but it needs a convincing path to get there.

Risks Section

The “Risk Factors” section may be long and dull, but it’s important.

Look for:

Customer concentration (e.g., one client is 30% of revenue).
Regulatory threats.
Technological disruption.
Heavy dependence on key executives.

No company is risk-free, but this section shows where the fault lines are.

_{Photo by Hans Eiskonen on Unsplash}

What an IPO Means for Different People

For Founders and Employees

An IPO can mean:

Validation of years of work
Significant wealth—at least on paper
New responsibilities, scrutiny, and pressure

Many founders discover that running a public company is a completely different job from building a startup.

For Early Investors

They get:

A visible valuation
A chance to distribute returns to their own investors
A new clock ticking: when to sell, how much to keep, how to manage exposure

They also face reputation risk if the stock performs poorly after the debut.

For Everyday Investors

Shiny new tickers can be tempting. But the key is to:

Treat IPOs like any other stock: analyze the business, not the hype.
Recognize you’re usually not buying at the ground floor—you’re entering after years of private growth.
Have a clear strategy: trade the volatility or invest for the long term, and know which one you’re doing.

Final Thoughts: IPOs as Milestones, Not Endings

An IPO is often portrayed as a finish line—the big “liquidity event” where everyone celebrates and cashes out.

In reality, it’s closer to a graduation ceremony:

The company moves from private adolescence to public adulthood.
Disclosure, discipline, and public markets replace private meetings and quiet pivots.
Investors get a new opportunity—but not a guaranteed win.

If you’re thinking about investing in an IPO, slow down, read the documents, and ignore the noise long enough to ask a simple question:

If this stock weren’t new and exciting, would I still want to own this business at this price?

The more honestly you answer that, the closer you’ll come to using IPOs as intelligent opportunities rather than expensive lessons.

External Links

Initial Public Offerings: What is an IPO? | AJ Bell What Is an IPO? a Beginner’s Guide to Initial Public Offerings A guide to going public - RSM US Demystifying IPOs: A Guide to Initial Public Offerings - MicroVentures What Is an IPO? How an Initial Public Offering Works - Investopedia