Rights Issue

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Transcript Rights Issue

Lecture 5
How Corporations Raise Venture
Capital and Issue Securities
Young firms often require venture capital to
finance growth.
The issuance of securities is a complex process that
the successful financier must comprehend.
15-1
Company Growth
Venture Capital provides entrepreneurs with
financing to grow their firms.
Firms issue securities to further finance their
growth.
15-2
Obtaining Venture Capital

Steps to obtaining venture funding:
1.
Prepare a business plan.
•
Business Plan – A description of a firm’s products, market, production methods, and
resources needed for success.
•
Staged Financing – Venture capital is rarely disbursed in one large lump sum payment, but
instead is paid to the firm in stages. Each stage is usually just enough to guide the firm
towards its next major checkpoint.
1.
Receive first-stage financing.
2.
Receive subsequent staged financing.
15-3
Venture Capital Ownership:
Example
Suppose a Venture Capital firm offers to purchase 1
million of your firm’s shares for $1 each, which will give
them 50% ownership in the firm. What value are they
placing on your firm?
Value of the Firm =
$1, 000, 000
 $2, 000, 000
.50
15-4
Types of Venture Investors
 Angel Investors
• Investors who finance companies in their earliest stages of growth
 Corporate Venturers
• Corporations that offer venture assistance to finance young,
promising companies.
 Private Equity Investing
• Investors who offer funds to finance firms that do not trade on
public stock exchanges such as the NYSE or NASDAQ.
15-5
Venture Capital Management
Venture Capitalist are not passive investors.
What do they provide beyond financing?
15-6
The Initial Public Offering
When a firm requires more capital than private investors can
provide, it can choose to go public through an Initial Public
Offering, or IPO.

Primary Offering
– when new shares are sold to raise additional cash
for the company

Secondary Offering
– when the company’s founders and venture
capitalists cash in on some of their gains by selling
shares.
Does a secondary offering provide additional capital to the firm?
15-7
Benefits of Going Public
 Ability to raise new capital
 Stock price provides performance measure
 Information more widely available
15-8
Benefits of Going Public
 Diversified sources of finance
 Reduced borrowing costs
15-9
Arranging Public Issues
Steps to issue a new public security:
SEC Registration
1.
•
Prospectus—a formal summary that provides information on an issue of securities
2.
Select Underwriter / Undertake Roadshow
3.
Set final issue price for public
•The roadshow attempts to gauge the interest that potential investors would have in purchasing the new
securities.
•If enough public interest, the underwriters issue shares to the public. Typically underwriters underprice
shares upon issue.
•
Underpricing – Issuing securities at an offering price set below the true value of the security.
15-10
IPO Flowchart
1
Underwriter
2
Firm
Investors
3
4
1.
2.
3.
4.
5.
5
Underwriter provides advice to firm
Underwriter pays firm for a number of shares
Firm provides shares to underwriter to be resold
Underwriter offers shares to investors
Investors purchase shares from underwriter
15-11
Underwriter Spread
Spread - the difference between the public offer
price and the price paid by underwriter
Assume the issuing company incurs $1 million in expenses to sell 3
million shares at $40 each to an underwriter; the underwriter sells
the shares at $43 each. What is the spread for this deal?
15-12
Underwriting Arrangements
Firm Commitment:
Underwriters buy the securities from the firm and then
resell them to the public.
Best Efforts Commitment:
Underwriters agree to sell as much of the issue as possible
but do not guarantee the sale of the entire issue.
15-13
Underwriting Arrangements:
Capital To Firm
How much will a firm receive in net funding from a firm commitment
underwriting of 250,000 shares priced to the public at $40 if a 10%
underwriting spread has been added to the price paid by the underwriter?
Additionally, the firm pays $600,000 in legal fees.
15-14
Underpricing of an IPO
Underpricing: Issuing securities at an offering price set below
the true value of the security.
Example: Assume the issuer incurs $1 million in other expenses to sell 3
million shares at $40 each to an underwriter and the underwriter sells the shares
at $43 each. By the end of the first day’s trading, the issuing company’s stock
price had risen to $70. What is the total cost of underpricing?
Cost of Underpricing:
15-15
Flotation Costs
Flotation Costs: The costs incurred when a firm
issues new securities to the public.
What are some of the specific costs incurred when a firm
issues new securities?
15-16
Types of Offerings
After the IPO, successful firms may issue additional
equity or debt.
Seasoned Offering:– Sale of securities by a
firm that is already publicly traded.

Rights Issue
Issue of securities offered only to current stockholders.

General Cash Offer
Sale of securities open to all investors by an already-public
company.
15-17
Rights Issue: Example
An investor exercises his right to buy one additional share at
$20 for every five shares held. How much should each share be
worth after the rights issue if they previously sold for $50 each?
Pre-Rights Issue:
Post-Rights Issue:
+
15-18
General Cash Offer and
Shelf Registration
Shelf Registration: A procedure that allows firms to file one
registration statement for several issues of the same security.
1.
2.
3.
4.
Benefits of Shelf Registration:
Security issuance without excessive costs
Security issuance on very short notice
Timed issuance to capitalize on favorable market
conditions
Additional underwriter competition
15-19
Private Placements
In order to avoid registering with the SEC, a
company can issue a security privately.
Private Placement: The sale of securities to a limited
number of investors without a public offering
15-20
Private Placements-Advantages

Do not have to register with SEC

Private placements cost less than public issues

Contracts can be customized for each investor
15-21
Private PlacementsDisadvantages

Difficult for investors to resell security

Lenders often require higher return to compensate
for higher risk.
• Private placements typically yield .5% higher than
public issues
15-22