Red Herring Prospectus

Introduction

A prospectus must be submitted to the SEC, a regulatory authority, when a firm wants to go public. A prospectus is a legal document containing thorough information about the firm, business activities, financial performance, etc. However, before the final prospectus is issued, companies often release a preliminary prospectus known as a red herring prospectus.

Meaning of Red Herring Prospectus

RHP is the first document filed by the firm that wants to go public through an IPO. The document is called a "red herring" because there is a disclaimer on the cover, written in red, stating that the herring is subject to change.

A red herring prospectus aims to give potential investors a glimpse of the company's financials and operations excluding the issue terms of the IPO. This preliminary prospectus is usually released to gauge investor interest and to get feedback on the proposed IPO.

Purpose of Red Herring Prospectus

The main purpose of a red herring prospectus is to provide the investor with a complete overview of the company. This document helps the investor analyze the investment's pros and cons. It even shows the strengths and weaknesses of the firm. It also helps the company to to make any necessary changes to the IPO structure.

List of Contents in Red Herring Prospectus

A red herring prospectus typically contains the following information −

• Company details − This information concerns the company's history, management, and ownership structure.

• Industry overview − It shows the detailed overview and operations of the firm.

• Financial information − We can see the financial performance of the firm, which includes its losses, profits, etc.

• Risk factors − The complications, such as the market conditions and competition, are even shown. It helps to make wiser decisions.

• Use of Proceeds − This section describes how the firm will use the funds raised by the IPO.

• Offering details − This section provides information about the number of shares offered, the price range, and any underwriters involved.

Importance of Red Herring Prospectus

The red herring prospectus is important for the company and potential investors. The company provides a platform to gauge investor interest and make necessary changes to the IPO structure before issuing the final prospectus.

It allows potential investors to glimpse the company's operations and financials, allowing them to make informed investment decisions. The red herring prospectus is also a regulatory requirement to ensure companies disclose all relevant information to potential investors.

Pros of Red Herring Prospectus

RHP is an important document for both the companies and the investors. The advantages of a red herring prospectus are-

• Provides early information − It provides investors with early information about the company's business. It helps them in making an informed decision about investing in the company.

• Helps gauge investor interest − RHP helps the company to gauge investor interest in its IPO. It allows the company to change the IPO structure based on investor feedback.

• Saves Time and Money − Filing a red herring prospectus saves time and money for the company. It allows the company to market its IPO to potential investors before issuing the final prospectus.

• Regulatory Compliance − Filing a red herring prospectus is required to ensure companies disclose all relevant information to potential investors.

Where and why should investors know about RHP?

Investors should know the red herring prospectus because it provides early information about the company's business operations, financials, and prospects. It should be noted that in the RHP, the IPO can change until the final prospectus is issued.

Investors should also know that the red herring prospectus is a regulatory requirement to ensure companies disclose all relevant information to potential investors. They should read the red herring prospectus carefully and understand the risks of investing in the company.

Things to remember about the Red Herring Prospectus

There are certain things to look out for before we read the red herring prospectus. The key features are given below −

• A red herring prospectus is a detailed legal document that can change before the final prospectus.

• It contains important information about the company, including financial performance, risks associated with investing, and prospects.

• A red herring prospectus is released to gauge investor interest and to get feedback on the proposed IPO.

• It is an essential document for the company and potential investors, providing a platform to make informed investment decisions.

Examples of Red herrings

A few examples of red herring prospectus are shared below −

• Facebook − A red herring prospectus was filed by Facebook ahead of its IPO in 2012 with the Securities and Exchange Commission (SEC). It showed that the company had revenue of $3.7 billion in 2011, with 845 million monthly active users.

• Alibaba − In 2014, Alibaba filed a red herring prospectus before its IPO on the New York Stock Exchange. The document showed that the Chinese e-commerce giant had 231 million active buyers. The first nine months of 2013 saw a revenue of $5.6 billion

• Uber − Uber also filed a red herring prospectus with the SEC ahead of its IPO in 2019. This revealed that the ride-hailing giant had generated $11.3 billion in revenue in 2018. A loss of $1.8 billion in 2018 was also shown.

Conclusion

A red herring prospectus is the first legal document that needs to be filed by the firm who is wanting to go public with the help of IPOs. The document is released to gauge investor interest and to get feedback on the proposed IPO. A red herring prospectus is essential for the company and potential investors, providing a platform for making informed investment decisions.

FAQs

Q1. What is the purpose of a red herring prospectus?

Ans. A red herring prospectus aims to gauge investor interest and get feedback on the proposed IPO. It is also essential for the company and potential investors, providing a platform for making informed investment decisions.

Q2. What information is included in a red herring prospectus?

Ans. A red herring prospectus includes important information about the company's business operations, financial performance, and prospects. The shares price and the number of available shares are even mentioned.

Q3. How does a red herring prospectus differ from a final prospectus?

Ans. A red herring prospectus is a preliminary document and is subject to change before the final prospectus is issued. The final prospectus provides all the IPO details and tends to stay the same.