FPO and SPO: Differences

Follow-on Public Offering (FPO): A Comprehensive Guide and Comparison with Secondary Public Offering (SPO)

A Follow-on Public Offering (FPO) serves as a crucial tool for companies that have already passed through the initial public offering (IPO) phase. This dynamic mechanism for capital mobilization enables issuers to strengthen their market positions, secure funds for business scaling, and enhance share liquidity. Unlike a Secondary Public Offering (SPO), where existing shareholders sell their shares, an FPO entails the issuance of new securities. Understanding the intricacies of these two mechanisms is essential for both company executives and investors seeking to optimise their portfolios and assess risks. This article delves into the key concepts, stages, regulatory requirements, price and liquidity effects, as well as practical examples of successful and unsuccessful offerings.

1. Understanding the FPO Mechanism

1.1 What is an FPO and How Does It Work?

A Follow-on Public Offering (FPO) involves the additional issuance of shares by an already public company to raise fresh capital. Through the FPO process, the issuer increases the number of shares available in the market, allowing the proceeds to be directed towards strategic projects: expanding production capacities, research and development, and mergers and acquisitions. For investors, an FPO presents an opportunity to enter a promising company at a stage of further growth, albeit accompanied by the risk of dilution of their holdings. This mechanism helps balance the capital structure and improve financial metrics without resorting to debt financing.

1.2 Steps Involved in Conducting an FPO

1. Board Approval: The board of directors approves the size of the offering and the strategic objectives for the raised funds.
2. Preparation of the Prospectus: Legal and financial advisors compile a detailed document revealing financial metrics, business model, and associated risks.
3. Regulatory Approval: Each jurisdiction requires regulatory consent; in Russia, it is from the Bank of Russia, in the US from the SEC, and in Europe from ESMA or national authorities.
4. Selection of Underwriters and Organisation of Book Building: Investment banks collate bids, determine the optimal price, and assess interest from different investor groups.
5. Pricing and Placement: The issuance is marketed to market participants at the set price, shares commence trading on the exchange, and the issuer receives the proceeds.
6. Post-Marketing Support: Underwriters ensure price stabilization through market-making and consulting for the issuer.
7. Performance Assessment: The issuer analyses the placement results, bid volumes, price dynamics, and prepares a report for shareholders.

2. Comparing FPO and SPO

2.1 Definitions and Key Concepts

• FPO: Issuance of NEW shares to increase the capital of the company.
• SPO: Sale of EXISTING shares held by insiders or funds, without changing the total number of shares outstanding.

2.2 Strategic Objectives

FPO is employed for growth financing, while SPO serves for the monetisation of existing shareholders' stakes without new capital inflow to the company's balance sheet. The choice between the two depends on the objectives: to expand production and development—opt for FPO; to pay out to investors and rebalance assets—select SPO.

2.3 When to Choose FPO and When to Opt for SPO?

If a company requires investment for a new project or merger, it should prefer an FPO. Conversely, when key shareholders wish to partially exit the business or restructure their portfolios, an SPO is utilised. Furthermore, markets respond differently: large SPOs are often viewed as signals of insider dissatisfaction, whereas FPOs are perceived as indicators of growth.

3. Risks and Advantages of FPO

3.1 Advantages for the Issuer

An FPO allows the acquisition of debt-free capital, improves financial ratios through the influx of funds, and boosts share liquidity, reducing spreads and enhancing attractiveness for institutional investors. The raised funds are directed towards strategic initiatives: production expansion, innovations, competitor acquisitions, and entering new markets.

3.2 Risks for Shareholders

For existing shareholders, the primary risk pertains to dilution of stakes, as their percentage ownership decreases. A short-term offering of significant volume may exert downward pressure on prices, especially if demand is insufficient. Additionally, poor communication with the market can lead to a negative signaling effect, whereby market participants interpret the FPO as a sign of problems within the issuer.

4. Regulation and Requirements

4.1 International Standards

In all developed jurisdictions, an issuer is required to prepare a prospectus, undergo a regulatory approval process with the national regulator (SEC in the US, ESMA and national authorities in the EU, Bank of Russia in the RF), and comply with financial information disclosure requirements. Additionally, in some countries, approval from the exchange and an opinion from independent auditors may be necessary.

4.2 Key Documents and Disclosures

The prospectus must include:

• Financial statements for the past three years and forecasts for the next three years.
• Description of the business model, development strategy, and plans for fund utilisation.
• Risks, including macroeconomic, industry-specific, and operational risks.
• Ownership structure, relationships with insiders and beneficiaries.

5. Participants in the Process

5.1 Role of Underwriters

Underwriters advise the issuer at all stages, from prospectus preparation to post-placement price support. They build the book of bids (book building), select the optimal price, and ensure guaranteed placement volumes, taking on some of the risk themselves.

5.2 Institutional and Retail Investors

Institutional investors (funds, pension funds, insurance companies) contribute the bulk of bids, ensuring stable demand. Retail investors create additional liquidity through numerous smaller bids, enhancing overall market engagement. Companies conduct roadshows and webinars to discuss all aspects of the offering in detail.

6. Impact of FPO on Price and Liquidity

6.1 Price Market Effect

Additional share offerings typically lead to a short-term price decline, particularly when the FPO volume exceeds 10-15% of free float. However, effective marketing support and strong demand can rapidly restore prices and even elevate them to new levels if investors perceive growth potential.

6.2 Trading Volume Dynamics

Following a successful FPO, trading volumes often increase by 20-50%, as the pool of shareholders broadens. Increased market activity contributes to reduced volatility and improved bid-ask spreads, attracting new participants.

7. Practical Cases and Examples

7.1 Successful FPO Companies

• Alibaba Group (2019): raised $12.9 billion to expand its ecosystem and incentivise employees, strengthening its position in Asian markets and investing in cloud services development.
• Zoom Video Communications (2020): raised $1.5 billion, increasing investments in infrastructure and R&D, which ensured the platform's stability amid a sharp rise in user numbers during the pandemic.

7.2 Mistakes During FPO Execution

The most common mistakes associated with FPO include:

• Underestimating Demand: Aggressive pricing leads to a potential loss of capital.
• Poor Communication: Lack of a detailed project presentation diminishes investor confidence.
• Excessive Offering Volume: Significant dilution deters long-term shareholders.

7.3 Recommendations for Effective FPO

Prior to conducting an FPO, companies should:

• Conduct an in-depth market analysis and demand modelling.
• Organise a roadshow for various investor categories.
• Ensure transparent and regular communication post-offering.
• Engage multiple underwriters to diversify risk.