Understanding the IPO share allocation process

Participating in an initial public offering (IPO) provides an opportunity to invest in a newly public company’s stock. As you think about requesting to participate in an IPO, it's important to note that each brokerage firm has its own criteria for determining who receives an allocation of shares. Customers who want to participate in an IPO offering are evaluated and ranked based on their assets and the revenue they generate for their brokerage firm. Typically, customers with significant, long-term relationships with their brokerage firm will receive higher priority than those with smaller or new relationships.

If you are new to investing in IPOs, read on to learn more about the process of participating in an IPO, including some of the contributing factors that may determine whether you receive shares or not.

Example: Attempting to obtain IPO shares for Credit Suisse

IPO Total Offering Size = 7,000,000 shares

Lead underwriters: Barclays (30%), Credit Suisse (30%)
Underwriters: RBC (10%), Baird (10%), Wells (10%)
Co-managers: STRH (5%), Raymond James (2.5%), Stephens Inc (2.5%) 

How to participate in an IPO

In addition to meeting your brokerage firm's eligibility requirements, you must meet Financial Industry Regulatory Authority (FINRA) requirements. Typically this can be accomplished by answering a series of questions asked by your brokerage firm.

Assuming you meet FINRA's and your brokerage firm's requirements, review the preliminary prospectus of the offering to understand the risks involved. When you've decided to request to purchase shares in the offering, your next step is to let the firm know the number of shares you want by entering an indication of interest. Keep in mind that submitting an indication of interest does not guarantee that you’ll be allocated any shares in the offering.

Your indication of interest tells your brokerage firm the maximum number of shares you are interested in purchasing. Requesting a large number of shares doesn't improve your odds of receiving an allocation, so it's best to enter the amount of shares you are comfortable owning. Very few firms use pro-ration as a means of allocating stock, so there's no need to enter 1,000 shares if you really only want 100. Your indication of interest quantity only assists with determining the maximum amount of shares you can be allocated.

After you submit an indication of interest, if accepted, you will receive a notification that the offering has been declared effective and has been priced on the evening of pricing. To have an opportunity to purchase shares, you must confirm your indication of interest by a stated deadline. By confirming your indication of interest, you are essentially turning your indication of interest into an order to buy shares.

Determining who gets shares

When thinking about investing in an IPO, you may want to know the likelihood of receiving an allocation of shares. Alternatively, perhaps you previously attempted to participate in an IPO and didn't receive an allocation of shares and want to know why. While it's impossible to know in advance whether you will receive an allocation of shares, understanding how shares are allocated might help set expectations and explain why you were not allocated shares.

Some of these factors are readily available by reviewing the deal's preliminary prospectus, commonly referred to as the "red herring." Learn about the 5 questions you can answer using the red herring. In addition to the information outlined in the red herring, several other factors may come into play when determining who receives an allocation of shares, including:

  • Retail versus institutional split – IPOs are typically broken into 2 tranches of demand: institutional and retail. Institutional investors typically receive the lion's share of any IPO allocation. Historically, the institutional to retail split is 90/10. However, the retail percentage can be higher or lower on a deal-to-deal basis.
  • Media coverage – A deal that receives a lot of media attention and that involves a well-known company is often significantly oversubscribed. This means that demand for IPO shares far outweighs supply. In such cases, your odds of receiving an allocation of shares are greatly reduced.
  • Type of offering – Certain types of IPOs, such as master limited partnerships (MLPs), real estate investment trusts (REITs) and business development companies (BDCs) can be more retail focused, so institutional investors are not vying for as large a piece of the offering. Therefore, retail investors typically have a better chance of receiving an allocation of shares in these types of IPOs.
  • Directed share program allocations – In some cases, an IPO issuer may choose to direct a significant allocation of shares to existing investors or "friends" of the company. When this happens, it typically reduces the number of shares available to retail investors.

As you can see, several factors influence how IPO shares are allocated. Knowing how to read the IPO prospectus (red herring) and understanding some of the other factors in play can help you set realistic expectations for your chances of receiving an IPO allocation. It is also important to note that every IPO is different and market conditions can play a role in how shares are allocated.

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Get answers to the most frequently asked IPO questions.

There are risks associated with investing in a public offering, including unproven management, and established companies that may have substantial debt. As such, they may not be appropriate for every investor. Customers should read the offering prospectus carefully, and make their own determination of whether an investment in the offering is consistent with their investment objectives, financial situation, and risk tolerance.

Eligibility for participation in traditional IPOs led by Kohlberg Kravis Roberts & Co. (KKR) is reserved for brokerage customers with a minimum of $100,000 in certain assets at Fidelity. Other providers of traditional IPOs, and other equity public offerings made through Fidelity may be reserved for brokerage customers with a minimum of $100,000 or $500,000 in certain assets at Fidelity. Auction Open IPOs and Secondary offerings made available through Fidelity are reserved for brokerage customers with a minimum of $100,000 in certain assets held at Fidelity. Members of Premium Services or customers who have placed 36 or more stock, fixed income, or option trades in a rolling 12-month period are eligible for either traditional or auction based offerings. 765896.4