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Know the difference between an NFO and an IPO

03 Aug 2023

There has been a certain degree of romance to the whole idea of new issues. Of course, in case of equities we refer to them as IPOs while in case of mutual funds we refer to them as NFOs. Both Initial Public Offerings (IPOs) and New Fund Offerings (NFOs) result in raising money from the public. But, have you ever wondered what are the differences and the similarities between IPOs and NFOs. But first, the concept of IPOs and NFOs in much greater detail!

Grasping the concepts of IPOs and NFOs

When a company wants to raise money from the public it is referred to as an upcoming IPO 2023. Remember, there are two kinds of categories of IPOs. Firstly, there are the Fresh Issues where the company in question is raising funds in the market. This fund-raising could be for expansion, diversification, repayment of high cost loans etc. Secondly, there is the Offer-for-Sale, wherein the promoters or the anchor investors offload a part of their stake through the IPO. In this case, the company 's capital does not get diluted as the funds raised entirely goes into the hands of the investors who are offloading these shares.

NFOs are launched by mutual fund houses that are looking to launch new fund ideas in the market. Normally, NFOs tend to be concentrated around market peaks. For example during the peak of 2000 we saw a large number of Technologies and media related NFOs that were launched. Similarly, in 2007-08, most IPOs pertained to infrastructure and metals. NFOs, essentially, try to ride the hot trend in the market and enable the fund in question to increase its AUM. Of course, a lot of these NFO ideas could get constrained after SEBI has passed the new MF regulations on categorization of funds in the Indian context.

How are IPOs and NFOs similar?

IPOs and NFOs are similar in the sense that both entail raising money from the public. Like in the case of IPOs, NFOs are also kept open for subscription for a fixed period of time. Of course, the NFO is open for subscription for a much longer period than an IPO. Like in case of IPOs, the NFOs also entail a cost in terms of marketing costs, administrative costs, legal and compliance costs etc. The other similarity between IPO and an NFO is that both tend to be scattered around period of high growth and solid stock market returns. Both the NFOs and the IPOs are regulated by SEBI covering all aspects right from filing the prospectus to monitoring the actual allocation of funds. Lastly, both NFOs and IPOs tend to see frenetic subscription during market peaks. While IPO stories are well known, there are also stories of funds like Reliance Infrastructure Fund and the Morgan Stanley Growth Fund that have showed tremendous retail investors frenzy in the midst of their NFOs.

How are NFOs and IPOs dissimilar?

While the similarities between NFO and IPOs are quite fundamental, the differences are a lot more pronounced. Here are few such key differences.

In IPOs there is an important aspect of valuation since the P/E ratio and the P/BV ratio become relevant in case of IPO pricing. There is no question of valuations when it comes to an NFO since the amount collected is simply divided into units and invested in the markets.

When it comes to IPOs, the usage of funds is very important as that will determine whether the IPO money is going to add value to the investor. In case of NFOs, the level of the market is more important as it will determine at what valuations the fund will enter the markets.

IPO price is indicative of perceived value of the company since a quality IPO commands a better valuation and therefore a better price in the market. When it comes to NFOs, the price really does not matter. Most mutual fund NFOs come out at a price of Rs.10 but that is hardly material. What matters is at what levels these funds enter the market.

An IPO may list at a premium to the issue price or at a discount to the issue price depending on the perception of retail and institutional investors. However, once an NFO has raised the funds then it allocates the money to buying shares. However, since the marketing, administrating and other issue costs are debited to the fund, NFOs normally open with a NAV of less than Rs.10.

When it comes to IPOs, the investors are divided into retail, institutional and HNI categories with separate quotas for each of them and even a discounted price for retail investors. There is no such classification in case of NFOs.

Remember, when it comes to IPOs, they are a genuine attempt to raise capital or offer an exit route for original investors. An NFO is hardly different from an on-tap purchase of mutual fund units, except that it sold as an NFO. As an investor, IPOs could be more material and meaningful to you compared to NFOs.

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