What Is Primary Market? - Example, Types & Functions! (2024)

The primary market is where securities are created and first sold to investors. It’s a marketplace where companies, governments, and other entities can raise capital by issuing new securities such as stocks, bonds, or shares of mutual funds.

Contents:

• Meaning of Primary Market
• Primary Market Example
• Distinguish Between Primary Market And Secondary Market
• Functions Of Primary Market
• Types Of Primary Market
• Advantages Of Primary Market
• Disadvantages Of Primary Market
• What Is Primary Market – Quick Summary
• Meaning of Primary Market – FAQs

Meaning of Primary Market

In financial terms, the primary market is the capital market segment, where companies issue fresh securities directly to investors. It provides the initial platform for companies seeking to raise capital, be it for expansion, meeting operational expenses, or funding new projects. For instance, when a company decides to go public, it does so via the primary market, launching what we commonly refer to as an Initial Public Offering (IPO).

An example of this is the Zomato IPO that happened in India in 2021. The company decided to go public and raise funds for its operations. It did so through the primary market, offering its shares for the first time to public investors. The event attracted numerous investors, many of whom used online brokerage platforms like Alice Blue for their transactions.

Primary Market Example

A typical example of a primary market transaction is an Initial Public Offering (IPO). In an IPO, a company sells its shares directly to the public for the first time. An example of a recent IPO in the Indian market is that of Paytm, a digital payment and financial services company. In November 2022, Paytm launched its IPO, issuing shares directly to the public through the primary market. This allowed the company to raise capital for expansion while giving investors an opportunity to be part of its financial journey.

Distinguish Between Primary Market And Secondary Market

The main difference between the primary and secondary markets is that the primary market involves issuing new securities directly from companies to investors. In contrast, the secondary market involves the trading of these securities amongst investors.

More such differences are explained below:

• In the primary market, investors directly purchase securities from the company, aiming to raise funds. In the secondary market, investors trade securities among themselves, providing liquidity.
• Pricing is fixed in the primary market but determined by supply and demand in the secondary market. Regulatory oversight by SEBI ensures fairness in both markets.
• The primary market involves one-time transactions, while the secondary market allows multiple transactions.
• Brokers play a minimal role in the primary market but a significant role in the secondary market.

Functions Of Primary Market

The primary function of the primary market is to facilitate capital formation. It is the avenue through which companies can raise funds directly from investors for various purposes like business expansion, acquisition, or debt repayment.

For instance, when Reliance Jio announced its plans to build a 5G network in India, it raised funds through a rights issue in the primary market. The funds were used to support the capital expenditures required for the project.

The primary market also performs several other functions:

• Pricing of securities: The primary market determines the price of the security being issued, which is typically based on the company’s financials, its business model, market conditions, and investor sentiment.
• Safety of transactions: As transactions in the primary market are overseen by regulatory bodies like SEBI, it ensures the safety and transparency of the transactions.
• Helps in economic development: The primary market indirectly contributes to the country’s economic development by enabling companies to raise capital for their business operations.
• Assists in direct investment: The primary market provides an avenue for investors to invest in the securities of a company directly. This allows them to participate in the company’s growth and potentially share in its profits.

Types Of Primary Market

The primary market is generally classified into five types:

• Public Issue
• Follow-on-Public Issue
• Rights Issue
• Private Placement and
• Preferential Allotment.

1. Public Issue: Here, securities are issued to the general public. The public issue could be an Initial Public Offer (IPO) or a Further Public Offer (FPO). For example, the recent Paytm IPO, where the company offered its shares to the public through the primary market, falls under this category.
2. Follow-on Public Offering (FPO): Companies already on the stock market sell more shares to the public to get more money.
3. Rights Issue: Existing shareholders are offered additional shares in proportion to their current holdings.
4. Private Placement: The issuance of securities is made to select individuals or institutional investors.
5. Preferential Allotment: Similar to the private placement, the allotment is usually made to a select group of investors, often at a preferential price.

Advantages Of Primary Market

The primary advantage of the primary market is that it enables companies to raise capital directly from investors. This helps them fund their operations, expansions, or pay off debts.

Here are some other advantages:

• Transparency: With regulatory oversight, transactions in the primary market are transparent and secure.
• Fair Pricing: The price of the securities is determined after considering several factors, which ensures that the price is fair.
• Boosts Economy: By helping companies raise capital, the primary market contributes to the country’s overall economic development.
• Availability to all: In the case of public issues, all interested investors, big or small, have the opportunity to invest.

Disadvantages Of Primary Market

The major disadvantage of the primary market is the high cost associated with the issuance of securities. These include underwriting costs, regulatory fees, and marketing expenses.

Take the example of a company that has decided to go public. It has to hire underwriters, pay regulatory fees to SEBI, and invest in marketing the issue. These costs can add up, reducing the net proceeds from the issue.

Other disadvantages include:

• Time-consuming: Issuing securities in the primary market is lengthy and involves several steps, which can be time-consuming.
• Risk of under subscription: If the issue is not well-received by the market, it may not get fully subscribed, leading to undersubscription.
• Regulatory hurdles: Companies have to comply with several regulations and procedures, which could be complex and cumbersome.

What Is Primary Market – Quick Summary

• The primary market is where securities are first issued and sold to investors.
• It acts as a platform for companies to raise capital by issuing new securities like stocks or bonds.
• An example of a primary market transaction is the Paytm IPO in 2022.
• The primary market issues new securities, while the secondary market trades among investors.
• The main function of the primary market is to facilitate capital formation for companies.
• The primary market is classified into four types: Public Issue, Rights Issue, Private Placement, and Preferential Allotment.
• The primary advantage of the primary market is it allows companies to raise funds directly from investors.
• The major disadvantage is the high cost associated with the issuance of securities.
• Invest in both primary and secondary markets at low brokerage costs with Alice blue.

Meaning of Primary Market – FAQs

1. What do you mean by primary market?

The primary market refers to the part of the capital market where new securities are issued and sold directly by companies to investors. It provides a platform for companies to raise funds for various purposes such as expansion, debt repayment, or launching new projects.

2. What is the role of SEBI in the primary market?

The Securities and Exchange Board of India (SEBI) regulates the primary market to ensure fair practices. It sets guidelines for companies issuing securities, monitors the process, and takes necessary actions against malpractices. This ensures that the interests of investors are protected.

3. What are the 5 types of primary market?

The primary market is generally classified into five types:

• Public Issue
• Follow-on-Public Issue
• Rights Issue
• Private Placement and
• Preferential Allotment.

4. What is meant by the secondary market?

The secondary market is where securities already issued in the primary market are bought and sold among investors. It provides liquidity to investors as they can sell their securities whenever they want. The price of securities in the secondary market is determined by supply and demand.

5. Who are the players in the primary market?

The players in the primary market include-

• Companies issuing the securities
• Investment banks that underwrite the issue, regulatory bodies like SEBI, and the investors who buy the securities.
• Online brokerage firms like Alice Blue also play a role by providing a platform for investors to participate in the primary market.

6. What is the difference between primary market and secondary market?

The main difference between the primary market and the secondary market is that on the primary market, companies issue and sell new securities directly to investors. In contrast, on the secondary market, investors trade these securities with each other.

We hope that you are clear about the topic. But there is more to learn and explore when it comes to the stock market, and hence we bring you the important topics and areas that you should know:

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