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An IPO, or initial public offering, is when a company makes its shares available for public trading for the first time. An acquisition is when one company takes over another company.
The difference between an IPO vs. an acquisition is important for investors to understand. When a company applies for an IPO, it enters into a process to be listed on a public exchange where investors can buy its shares. In an acquisition, the company being bought may not survive — or it may thrive, but only as part of the newly combined organization.
Investors contemplating investing in companies undergoing an IPO or an acquisition would do well to think through the benefits and risks.
Key Points
• An IPO, or an initial public offering, allows a private company to offer shares to the public to raise capital and enhance visibility.
• An acquisition occurs when one company buys a large portion, or all, of another company, taking control over its assets and operations.
• IPOs involve going public to raise funds and gain publicity, while acquisitions entail one company taking over another, potentially merging their resources and strategies.
• IPOs may result in raising substantial funds and publicity, but they also involve high costs, stringent regulations, and they expose companies to market volatility.
• Acquisitions can foster growth and innovation but may lead to conflicting priorities, strained partnerships, and brand reputation risks.
How IPOs Work
Private companies can go public with an IPO. That’s when they sell their shares to investors for the first time to raise capital to fund growth opportunities, create more awareness about the company, or to acquire other businesses, among other possible reasons.
The IPO process typically involves the private company hiring an underwriter like an investment bank to guide them through. The underwriter conducts an evaluation of the company to determine its valuation and growth potential, and helps the company decide the initial share price and the number of shares to offer.
Then the underwriter helps market the offering through what’s known as an IPO roadshow. The final IPO price is generally determined by investor demand.
Once the IPO has been reviewed and approved by the Securities and Exchange Commission (SEC), the company is listed on a public stock exchange where qualified investors can buy shares of the IPO stock.
Because IPO stock is highly volatile, it can be risky for retail investors to plunge into IPO investing. Doing thorough due diligence before investing in an IPO or any type of security is critical.
💡 Quick Tip: IPO stocks can get a lot of media hype. But savvy investors know that where there’s buzz there can also be higher-than-warranted valuations. IPO shares might spike or plunge (or both), so investing in IPOs may not be suitable for investors with short time horizons.
Advantages of Going Public
Taking a private company public has a number of possible advantages. These include:
Capital for Investment
For a company, the biggest benefit of an IPO is raising capital. Once investors start buying IPO stocks, the proceeds from an IPO may be substantial. The company typically uses the capital it raises for internal investments and expansion.
For example, the company could allocate the money to pay for research and development, hire more staff, or expand its operations.
Publicity
In some cases, IPOs generate publicity. This, in turn, can drive more attention to the company and get investors interested in purchasing shares of its stock. IPOs are frequently covered in business news, which adds to the IPO buzz.
However, if there is too much hype, that can contribute to high expectations for the stock, which can create stock volatility after the IPO.
Valuation
Some companies that go public may end up having higher valuations. Certainly, that is a hoped-for result of the IPO process. Because a public company has access to more capital, the shares of the company can increase in price over time. However, they can also lose value.
Disadvantages of Going Public
There are also drawbacks to going public. Companies must adhere to a series of steps and regulations in order to have a successful IPO, and the process can be arduous. Here are some of the disadvantages.
High Cost
Going public is expensive. The company needs to work with an investment bank that acts as an underwriter, and this is one of the largest costs associated with an IPO.
As noted earlier, IPO underwriters review the company’s business, management, and overall operations. In addition, legal counsel is required to help guide the company through the IPO. There are costs associated with accounting and financial reporting, and companies also accrue fees for applying to be listed on the exchange.
Not Enough Information for Investors
From an investor’s perspective, investing in an IPO can be challenging and risky. A company pursuing an IPO may be fairly new. In that case, investors may not have enough information or historical data on the company’s performance to make a determination on the company’s true value in order to decide whether the IPO is a sound investment.
Stock Market Stress
Once a company goes public, it is on the public market where it is subject to such factors as scrutiny, market volatility, and investor sentiment. Every move and decision the company makes, such as a corporate restructuring, change in leadership, or release of earnings reports, will be reviewed closely by industry analysts and investors, who will provide their opinions on whether the company is doing well or not.
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What Is an Acquisition?
An acquisition is when one company, the acquirer, buys a majority or controlling stake in another company, the target.
This gives the acquiring company control over the target company’s assets and operations. The target company typically becomes a subsidiary of the acquiring company.
Advantages of Being Acquired
Being acquired doesn’t have to signal the end of a company — in fact, sometimes it can be a lifeline. These are some of the potential perks.
Growth
An acquisition could help a target company move into new markets and become a leader in its industry. If the company is working in a competitive landscape, being acquired may help increase its value and allow it to gain more market strength.
Innovation
When one company acquires another, this allows both companies’ resources, employees, and experiences to come together. This may enable the bigger company to generate new ideas and business strategies that may help increase the company’s earnings. It can also create a new team of employees with specialization and expertise that could help the company develop and reach new goals.
More Capital
When an acquisition occurs, it can increase the cash holdings and assets of the acquiring company and allow for more investment in the newly formed bigger company.
Disadvantages of Being Acquired
There are also distinct downsides to being acquired by another company, such as:
Conflicting Priorities
In some acquisition scenarios, there may be competing priorities between the two companies. The acquiring company and target company once worked as individual entities, but now, as one company, both sides must work together to be successful, which may be easier said than done. If there isn’t alignment on the goals of the organization as a whole, there is a possibility that the acquisition may fail, or the transition could be rocky and prolonged.
Pressure on Existing Partnerships
When an acquisition occurs and a company grows in size, it is likely that their goals will grow as well. For example, if the company wants to develop more products to expand into new markets, this could require their suppliers to figure out how they are going to ramp up production to meet the demand.
The supplier may need to raise more capital to hire staff or purchase additional equipment and supplies, which could cause stress.
Brand Risk
When two companies come together, if one has a poor reputation in the industry, the acquisition could put the other company’s brand at risk. During the acquisition process, both companies’ reputations may need to be evaluated to decide whether they merge under one brand or are marketed as separate brands.
The Takeaway
Both initial public offerings (IPOs) and acquisitions can offer opportunities for investors. However, these two events are quite different. An IPO is when a private company decides to go public and sell its shares to investors on the public market, while an acquisition is when one company buys another company.
There are a number of pros and cons regarding IPOs, just as there are advantages and disadvantages when a company is acquired. Potential investors need to thoroughly research each scenario to make sure it’s the right opportunity for them.
Whether you’re curious about exploring IPOs, or interested in traditional stocks and exchange-traded funds (ETFs), you can get started by opening an account on the SoFi Invest® brokerage platform. On SoFi Invest, eligible SoFi members have the opportunity to trade IPO shares, and there are no account minimums for those with an Active Investing account. As with any investment, it's wise to consider your overall portfolio goals in order to assess whether IPO investing is right for you, given the risks of volatility and loss.
FAQ
Is an acquisition an IPO?
No, an acquisition is not an IPO. An acquisition is when one company purchases part of or all of another company to form one new company. An IPO is when a private company goes public and sells its shares to investors on the public market.
What is the difference between an IPO and a takeover?
An IPO is when a private company decides to go public and sell its shares to investors on the public market. A takeover is when one company takes control of another company. A takeover may be hostile, meaning it is unwanted by the target company’s management.
Is a takeover the same as an acquisition?
No, a takeover and an acquisition are not the same thing. However, a takeover is a type of acquisition. An acquisition is the purchase of a target company, and it may be friendly or hostile. A takeover is an acquisition that is typically unsolicited and unwelcome by the target company.
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