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What Is an IPO? How a Company Goes Public and What Buyers Should Know

An IPO is a company's first sale of shares to the public. How SEC registration works, who gets shares at the offering price, and the risks for buyers.

By Published 3 min read

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Key takeaways

  • An initial public offering is generally a company's first sale of its shares to the public, registered with the SEC, usually on Form S-1.
  • The SEC reviews the disclosure but does not approve the merits of the investment.
  • Underwriters set up the sale and often allocate most IPO shares to institutional and high-net-worth clients; most individuals buy once trading begins.
  • Early trading can be volatile because supply is limited, and prices can fall when lock-up agreements expire.
  • So-called pre-IPO offers are a setting for scams that the SEC specifically warns about.

An initial public offering, or IPO, is the moment a private company becomes a public one: it sells shares to the general public for the first time, and those shares then trade on a stock exchange. IPOs attract headlines, and sometimes big first-day price moves. The SEC's investor bulletin on investing in an IPO explains what actually happens and, importantly, why buying a newly public stock carries particular risks.

How a company goes public

  1. Registration. Under US securities law, a company may not offer or sell shares unless the transaction is registered with the SEC or an exemption applies. For an IPO, the company files a registration statement, typically on Form S-1. Its core is the prospectus, the document describing the company and the terms of the offering.
  2. SEC staff review. The staff reviews the filing for compliance with disclosure requirements, often prompting revisions. The bulletin is explicit: the SEC declaring a registration statement effective does not represent an approval of the merits of the offering.
  3. Pricing. The underwriters, investment banks that manage and sell the IPO, gather indications of interest from prospective investors and recommend a price; the company ultimately sets it.
  4. Listing and trading. The company usually lists on an exchange such as the New York Stock Exchange or Nasdaq, and its shares begin trading. From then on it must file regular public reports, such as the quarterly and annual filings described in how to read an earnings report.

The money raised in the IPO goes to the company and any selling shareholders. After that, trading happens between investors, as explained in how the stock market works.

Who gets shares at the offering price

The SEC describes two ways the public can invest:

  • In the IPO itself, at the offering price, if you are a client of an underwriter or dealer involved. The bulletin notes that underwriters and dealers often distribute most IPO shares to institutional and high-net-worth clients.
  • In the market afterwards, buying shares when they are resold in the days after the IPO. This is the more common route for individuals, and the price can be very different from the offering price.

Reading the prospectus

A new public company has no reporting history, so the SEC notes that information to inform a decision often can only be found in the prospectus. The final version usually appears on EDGAR as a 424B3 or 424B4 filing. Sections the bulletin highlights:

Section Why it matters
Prospectus summary The business, strategy, use of the money raised and the offering terms
Risk factors What management thinks could significantly hurt the business or the investment
Dilution The usually large gap between the IPO price and both the book value per share and what insiders paid
MD&A Management's account of results and financial condition
Business Products, markets, key suppliers and customers, competition
Financial statements Audited figures, preceded by the auditor's opinion

The bulletin also notes that many requirements are phased in over time for emerging growth companies, generally those with less than $1.235 billion in revenue, for up to five years after going public.

Why newly public stocks can swing

The SEC explains a structural reason. On the first day, generally only the shares sold in the IPO can trade; shares held by founders, early investors and employees are often restricted or covered by lock-up agreements. Limited supply, especially for a highly sought-after IPO, can drive the price steeply up. Later, as restricted shares become available, the price may decline, and when lock-ups expire it may fall significantly if many shares come to market at once.

Add a short trading history and little public information, and IPO shares tend to be volatile. The SEC's bulletin calls IPOs potentially risky and speculative investments.

Beware "pre-IPO" offers

The SEC has issued a separate alert about scams offering the chance to buy "pre-IPO" shares, often promoted on social media, by phone or email, with promises of high returns from getting in at the ground floor. Even legitimate pre-IPO investing carries the risk of losing everything: the company may never succeed, never go public, and its shares may be impossible to resell. Investment fraud red flags lists the warning signs.

A stock that has just listed is still a stock: a share of ownership with all the usual risks, plus the uncertainty of a short track record. Learn to Trade Stocks Beginner teaches market basics with a virtual balance before any real money is involved. It is one of our education apps; the investing basics hub lists the related guides.

Good to know

Frequently asked questions

What is an IPO?
An initial public offering, generally the first time a company sells its shares to the general public. In the US, the offering must be registered with the SEC, usually on Form S-1, unless an exemption applies, and the company typically lists its shares on an exchange.
Can I buy shares at the IPO price?
Usually only if you are a client of an underwriter or dealer involved in the offering, and even then allocations are limited. The SEC notes underwriters often distribute most IPO shares to institutional and high-net-worth clients, so most individuals buy once shares trade in the market.
Does SEC review mean an IPO is a good investment?
No. The SEC's staff reviews the registration statement for compliance with disclosure requirements, but declaring it effective does not represent an approval of the merits of the offering. Investors still need to judge the investment themselves.
What is an IPO lock-up?
An agreement that stops insiders and early investors from selling their shares for a period after the IPO. The SEC notes that when lock-ups expire, the share price may decline significantly if many shares become available for sale at once.

Sources

  1. Updated Investor Bulletin: Investing in an IPO (opens in a new tab)Investor.gov, U.S. Securities and Exchange Commission — accessed
  2. Pre-IPO Investment Scams – Investor Alert (opens in a new tab)Investor.gov, U.S. Securities and Exchange Commission — accessed
  3. Initial Public Offering (IPO) (glossary) (opens in a new tab)Investor.gov, U.S. Securities and Exchange Commission — accessed

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