The underwriters and the company that issues the shares control the IPO process. They have wide latitude in allocating IPO shares. The SEC does not regulate the business decision of how IPO shares are allocated.
While smaller or individual investors are finding it easier to buy IPO shares through online brokerage firms, they may still find it difficult to buy IPO shares for a number of reasons:
The Underwriting Process
The IPOs of all but the smallest of companies are usually offered to the public through an "underwriting syndicate," a group of underwriters who agree to purchase the shares from the issuer and then sell the shares to investors. Only a limited number of broker-dealers are invited into the syndicate as underwriters and some of them may not have individual investors as clients. Moreover, syndicate members themselves do not receive equal allocations of securities for sale to their clients.
The underwriters in consultation with the company decide on the basic terms and structure of the offering well before trading starts, including the percentage of shares going to institutions and to individual investors. Most underwriters target institutional or wealthy investors in IPO distributions. Underwriters believe that institutional and wealthy investors are better able to buy large blocks of IPO shares, assume the financial risk, and hold the investment for the long term.
When an IPO is "hot," appealing to many investors, the demand for the securities far exceeds the supply of shares. The excess demand can only be satisfied once trading in the IPO shares begins. It is unclear how "hot" the offering will be until close to the time when the shares start trading. Since "hot" IPOs are in high demand, underwriters usually offer those shares to their most valued clients.
Underwriting firms that have a high percentage of individual investors as clients are more likely to allocate portions of IPO shares to individuals. Several online brokers offer IPOs, but these firms often have only a small allotment of shares to sell to the public. As a result, individual investors' ability to buy these shares may be limited no matter which firm they do business with.
By their nature, investing in an IPO is a risky and speculative investment. Brokerage firms must consider if the IPO is appropriate for individual investors in light of their income and net worth, investment objectives, other securities holdings, risk tolerance, and other factors. A firm may not sell IPO shares to an individual investor unless it has determined the investment is suitable for that particular investor.
Even if the firm decides that an IPO is an appropriate investment for an individual investor, the brokerage firm may sell the IPO only to selected clients. For example, before you can purchase an IPO, some firms require that you have a minimum cash balance in your account, are an active trader with the firm, or subscribe to one of their more expensive or "premium" services. In addition, some firms impose restrictions on investors who "flip" or sell their IPO shares soon after the first day of trading to make a quick profit. If you flip your IPO shares, your firm may refuse to sell you other IPOs altogether or prevent you from buying an IPO for several months. You can often find these restrictions on the firm's website.