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Issuing securities to the public


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Issuing securities to the public

  1. 1. Issuing Securities to the Public 20-1
  2. 2. 10.1 The Public Issue • The Basic Procedure – Management gets the approval of the Board. – The firm prepares and files a registration statement with the SEC. – The SEC studies the registration statement during the waiting period. – The firm prepares and files an amended registration statement with the SEC. – If everything is copasetic with the SEC, a price is set and a full-fledged selling effort gets underway. 20-2
  3. 3. The Process of a Public OfferingSteps in Public Offering Time1. Pre-underwriting conferences Several months2. Registration statements 20-day waiting period3. Pricing the issue Usually on the 20th day4. Public offering and sale After the 20th day5. Market stabilization 30 days after offering 20-3
  4. 4. An Example of a Tombstone 20-4
  5. 5. 10.2 Alternative Issue Methods• There are two kinds of public issues: – The general cash offer: are sold to al interested investor – The rights offer: are sold to existing shareholders• Almost all debt is sold in general cash offerings. 20-5
  6. 6. • Initial public offering: the first public equity issued by a company. Made by cash offers.• Seasoned new issue: to a new issue where the company’s securities have been previously issued. Can be made by using cash offer or a rights offer. 20-6
  7. 7. 10.3 The Cash Offer• There are three methods for issuing securities for cash: – Firm Commitment – Best Efforts – Dutch Auction• There are two methods for selecting an underwriter – Competitive – Negotiated 20-7
  8. 8. Firm Commitment Cash Offer• Company negotiates an agreement with an investment banker to underwrite and distribute the new shares.• A specific number of shares are bought by underwriters and sold at a higher price. 20-8
  9. 9. Best Efforts Cash Offer• Company has investment bankers sell as many of the new shares as possible at the agreed-upon price.• There is no guarantee concerning how much cash will be raised, some best efforts offerings do not use an underwriters. 20-9
  10. 10. Dutch Auction Cash Offer• Company has investment bankers auction shares to determine the highest offer price obtainable for a given number of shares to be sold. 20-10
  11. 11. IPO Underpricing• May be difficult to price an IPO because there is not a current market price available.• Private companies tend to have more asymmetric information than companies that are already publicly traded.• Underwriters want to ensure that, on average, their clients earn a good return on IPOs.• Underpricing causes the issuer to “leave money on the table.” 20-11
  12. 12. 10.4 What CFOs Say• Firms go public for two primary reasons: – Raise capital – Create a publicly traded asset• Benefits of the public market seem to be the more important reason: – Use shares for future acquisitions – Allow owners to diversify holdings – Enhance reputation 20-12
  13. 13. 10.5 The Announcement of New Equity and the Value of the Firm• The market value of existing equity drops on the announcement of a seasoned new equity issue.• Reasons include: – Management may attempt to issue new shares of stock when the stock is over-valued, that is, the intrinsic value is lower than the market price. The price drop is the result of the downward adjustment of the overvaluation. – When there is an increase in the possibility of financial distress, a firm is more likely to raise capital through equity than debt. The market price drops because the market interprets the equity issue announcement as bad news. 20-13
  14. 14. 10.6 The Cost of New Issues1. Spread or underwriting discount2. Other direct expenses3. Indirect expenses4. Abnormal returns5. Underpricing6. Green Shoe Option 20-14
  15. 15. 10.7 Rights• If a preemptive right is contained in the firm’s articles of incorporation, the firm must offer any new issue of common shares first to existing shareholders.• This allows shareholders to maintain their percentage ownership if they so desire. 20-15
  16. 16. Mechanics of Rights Offerings• The management of the firm must decide: – The exercise price (the price existing shareholders must pay for new shares). – How many rights will be required to purchase one new share of stock.• These rights have value: – Shareholders can either exercise their rights or sell their rights. 20-16
  17. 17. 10.8 Shelf Registration• Permits a corporation to register an offering that it reasonably expects to sell within the next two years.• Not all companies are allowed shelf registration.• Qualifications include: – The firm must be rated investment grade. – They cannot have recently defaulted on debt. – The market capitalization must be > $75 m. – No recent SEC violations. 20-17
  18. 18. 10.9 The Private Equity Market• The previous sections of this chapter assumed that a company is big enough, successful enough, and old enough to raise capital in the public equity market.• For start-up firms and firms in financial trouble, the public equity market is often not available. 20-18
  19. 19. Private Placements• Private placements avoid the costly procedures associated with the registration requirements that are a part of public issues.• The SEC typically restricts private placement issues to less than one hundred “qualified” investors, including institutions such as insurance companies and pension funds.• The biggest drawback is that the securities cannot be easily resold. 20-19
  20. 20. Venture Capital• The limited partnership is the dominant form of intermediation in this market.• There are four types of suppliers of venture capital: 1. Old-line wealthy families 2. Private partnerships and corporations 3. Large industrial or financial corporations have established venture-capital subsidiaries. 4. Individuals, typically with incomes in excess of $100,000 and net worth over $1,000,000. Often these “angels” have substantial business experience and are able to tolerate high risks. 20-20
  21. 21. Corporate Equity Security Offerings 17.7% Private Rule 144A placements 16.2% Private non-Rule 144A placements 66.1% Public equity offering Source: Jennifer E. Bethal and Erik R. Sirri, “Express Lane or Toll Booth in the Desert: The Sec of Framework for Securities Issuance,” Journal of Applied Corporate Finance (Spring 1998). 20-21
  22. 22. Stages of Financing1. Seed-Money Stage2. Start-Up3. First-Round Financing4. Second-Round Financing5. Third-Round Financing6. Fourth-Round Financing 20-22