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How Corporations Issue Securities

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Partnership in operations and financial success. Incentives. For managers ... Financial advisors. Buy the issue. Resell it to the public ... – PowerPoint PPT presentation

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Title: How Corporations Issue Securities


1
How Corporations Issue Securities
  • Financial Institutions
  • Student Presentations
  • Venture Capital
  • Initial Public Offering
  • Other New Issue Procedures
  • Subsequent Security Sales
  • Private Placements

2
Financial Institutions
  • Types of institutions
  • Banks
  • Insurance companies
  • Pension funds
  • Mutual funds
  • Hedge funds
  • Payment mechanism
  • Borrowing and lending
  • Pooling risk

3
Venture Capital
  • First stage financing
  • Advantages
  • Deep pockets
  • Contacts
  • Experience with start-up companies
  • Partnership in operations and financial success
  • Incentives
  • For managers
  • Fully committed financially
  • Will reap payoff only if successful
  • For venture capitalist
  • Downside protection
  • Upside potential

4
Venture Capital - 2
  • Second (and third or more) stage financing
  • May include additional venture capitalists
  • Ties funding to meeting objectives
  • Most companies funded by venture capital do not
    succeed
  • Open Prairie Ventures
  • 2 of 15 start-ups actually considered successes
  • Payoffs on successes provide enough to offset the
    losses on the rest of the investments

5
Venture Capital Market
  • Venture capital investment trends
  • 1995 8 billion
  • 2000 105 billion
  • 2006 26 billion
  • Generally organized a limited private
    partnerships
  • Management company
  • Fixed fee and share of profits (2 plus 20)
  • Limited partners
  • Insurance companies or pension plans
  • Wealthy investors
  • Share in gains/losses
  • Exit strategy for venture capitalist
  • Selling firm
  • Going public

6
Initial Public Offering
  • Select managing underwriter and form underwriting
    syndicate
  • Arrange spread and greenshoe option
  • Register with SEC and issue prospectus
  • Roadshow to interest potential investors and
    build book of demand
  • SEC approval and issue price set
  • Underwriters allocate stock
  • Trading starts
  • Managing underwriter makes liquid market

7
Underwriting a New Issue
  • Role of underwriter and underwriting syndicate
  • Financial advisors
  • Buy the issue
  • Resell it to the public
  • Alternatives for underwriting syndicate
  • Buy entire issue and resell it
  • Best-efforts basis
  • All-or-none arrangement
  • Primary offering
  • New shares
  • Secondary offering
  • Shares held by management, venture capitalist or
    other investors

8
Financial Terms for IPO
  • Spread
  • Difference between what underwriter pays and the
    offering price
  • Typically 7 for 20 80 million IPOs
  • Split among managing underwriter, syndicate and
    sales force
  • Registration costs
  • Greenshoe option
  • Allows underwriter to buy and sell additional
    shares

9
Prospectus
  • Number of shares
  • Primary offering
  • Secondary offering
  • Price
  • To public
  • To underwriter
  • Proceeds to company and other sellers
  • Registration expenses
  • Use of proceeds
  • Company information
  • Considerations Warnings
  • Management and compensation
  • Prior transactions
  • Selling stockholders
  • Underwriting agreement
  • Legal matters

10
Underpricing of IPOs
  • IPOs often end the first day of trading above the
    offering price
  • Average first day returns approximately 19 over
    1963-2003
  • Long term, IPOs underperform the market
  • Why are IPOs underpriced?
  • To assure selling entire issue
  • To entice investors to IPOs of underwriter
  • To reward favored clients
  • Individual investors do not get favorable returns
    by bidding for each IPO

11
New Issue Procedures
  • Bookbuilding
  • Typical in US
  • Fixed price offer
  • Auction
  • Google
  • Discriminatory auction
  • Uniform price auction
  • Impact of winners curse

12
Subsequent Security Sales
  • General cash offers
  • Shelf registration
  • More common for debt than equity
  • Allows company to time market
  • Spreads
  • IPOs - around 7
  • Seasoned equity - around 5
  • Debt around 1
  • Market reaction to stock issues
  • US stocks approximately a 3 decline when stock
    issue is announced
  • Signaling issue
  • Rights issues

13
Private Placements
  • Limits on number and type of investors
  • Advantages
  • Lower cost
  • May deal directly with buyer
  • Disadvantages
  • No active market to determine price
  • Hard to resell
  • Example
  • State Farm and debt issues

14
Summary
  • Companies can raise capital in a variety of ways
  • Venture capital is a stepping stone to more long
    term financing
  • Initial public offerings are a complex process
  • Issuing equity is more costly than issuing debt
  • Underwriters play an important role in raising
    capital
  • Underpricing of IPOs is typical
  • Signaling inside information impacts stock price
  • Beware of the winners curse in investing

15
Next Class
  • Payout Policy
  • Read Chapter 16
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