Transcript TITLE HERE - Texas Tech University

IPOs
1
Pre IPO

These are private companies
 Generally


smaller and newer companies
Recently we seen firms that have fallen on hard times
taken private (Ex. Kmart)
They receive additional capital from:
Credit Cards
2. Friends and Family
3. Angel Investors
4. Venture Capital
1.
2
Angel Investors
Angels typically invest their own money
 Angels generally come in after “friends and
family,” but before venture capitalists
 Unlike credit cards and friends and family
Angels provide experience as well as money

3
Venture Capital

These are typically limited partnerships, where
investment managers raise money from qualified
investors


They also provide experience and take a more active
advisory role in the firm
Four main suppliers of venture capital:
1.
2.
3.
Old Money
Large firm with established venture-capital subsidiaries.
Qualified Individuals

Individuals worth over $1,000,000 and incomes above
$100,000
IPO
This is when a private firm is made public
 It is the first time that the general public is able
to invest in the firm
 Generally happens when a firm needs more
money than it can raise from VC’s

 Or
when the market is “hot”
5
The Basic Process

Management gets Board approval to go public
 Once this

“All Hands Meeting” everyone gets together and
starts doing due diligence
 Review



documents, audited financials, SEC filings
File a registration statement with the SEC
 This

happens it’s a 3-6 month process
starts the waiting period & the road show
Sell Sell Sell
Amend the registration statement with the SEC
Set a share price and sell shares to the public
Types of IPO’s

Once the basic process is competed there are 3
ways to sell shares to the public
 Firm
Commitment
 Best Efforts
 Dutch Auction
Firm Commitment

Firm sells shares to the underwriting syndicate


Syndicate resells to the public


Primary Sale
Secondary Sale
Syndicate makes money on the SPREAD
 Difference
between what the syndicate pays and sells
the shares for

This is typically about 7% in the US
Syndicate bears the risk of not selling all the
shares
 Most common type of IPO in the US

Best Effort

Underwriter makes a “best effort” to sell the
securities at an agreed-upon price
The firm bears the risk of not selling all shares
If there is not enough demand the firm can pull
the offer


Firm still pays the underwriter, but keeps all the shares
Not very common
Dutch Auction

The underwriter simply records investors bids
 Number
of shares and price per share
 Greatly reduces the importance of the underwriter
The price is the highest bid that clears the market
 Investors have an incentive to bid high
Higher bids are more likely to win, while you
are unlikely to pay the price you bid
 Google was the first large Dutch Auction IPO

Dutch Auction Example

Firm TUM is offering 1,000 shares through a Dutch
Auction. What is the price of each share?
Investor
Price Bid
Shares
Bid
Abbie
Bill
$75
$70
500
250
Charlie
David
Edward
$65
$60
$55
150
100
75
Fancy
$50
200
Win
Shares
Received
Price Paid
11
Problems With the Basic IPO
Process
Underpricing
 Winner’s Curse

12
IPO Underpricing

IPOs are generally offered at a prices below
their true market value
 This
implies that the firm is “leaving money on
the table”

IPOs are potentially underpriced because:
 Of
the difficulty in setting an accurate price
 Private companies are very hard to value
 Underwriter wants to ensure a large day one return
 Managers want to ensure their ability to go back to
the market
Winner’s Curse

IPO’s are generally a good short term bet
 They
tend to increase in value over the short term
Therefore you want these
 However, underwriters choose who to allocate
IPO shares too, and generally give preferential
treatment to their big customers (favor bank)
 So if you aren’t a big customer and you get an
IPO allocation, is it likely to be any good?

14
SEOs
A Seasoned (Secondary) Equity Offering is
when a public company offers additional
equity to the public
 This is generally the result of the firm needing
cash for investments

15
SEO Announcement and Firm Value
The market value of existing equity drops on the
announcement of a SEO
 The price may drop because:

 Managers
are likely to issue stock when they think it
is overpriced
 May be issuing equity to repurchase debt, because of
a fear of financial distress
 A share now entitles you to less of the company than
it did before the SEO
The Costs of Equity Public Offerings
Proceeds
(in millions)
2 - 9.99
10 - 19.99
20 - 39.99
40 - 59.99
60 - 79.99
80 - 99.99
100 - 199.99
200 - 499.99
500 and up
Direct Costs
SEOs
IPOs
2.88%
15.36%
8.81%
11.63%
7.24%
9.81%
6.20%
9.21%
5.81%
8.65%
5.56%
8.34%
5.00%
7.67%
4.26%
6.72%
3.64%
5.15%
Underpricing
IPOs
18.18%
10.02%
17.91%
29.57%
39.20%
45.36%
37.10%
17.72%
12.19%