initial public offering

What It Is

An initial public offering (IPO) refers to the first time a company publicly sells shares of its stock on the open market. It is also known as "going public."

How It Works

The proceeds from the sale of stock shares in an initial public offering provide the issuing company with capital. For this reason, many start-up companies issue IPOs because they're seeking a source of capital to fund growth.

IPOs are introduced to the market by an underwriting investment bank, which aids the issuing company by soliciting potential investors. In addition, the underwriter helps the issuing company to settle on the price at which the stock should be offered to investors.

IPOs represent the first time an issuing company will financially benefit from the public sale of its stock. Following the IPO, shares trade between buyers and sellers on the open market, whereby the underlying company receives no compensation.

Why It Matters

For a company, the capital earned from selling its shares to the public act can act as a major boost the the business' growth, making the idea of an initial public offering attractive. For investors, IPOs are a significantly higher risk as opposed to a currently traded stock. A lack of historical data combined with a usually limited history behind the company can make purchasing recently issued shares more risky.

Source: Investing Answers