Chapter 15Principles of

Corporate FinanceTenth Edition

How Corporations Issue Securities

Slides by

Matthew Will

McGraw-Hill/Irwin Copyright © 2011 by the McGraw-Hill Companies, Inc. All rights reserved.

15-2

Topics Covered

Venture CapitalThe Initial Public OfferingAlternative Issue Procedures for IPOsSecurity Sales by Public Companies

– Rights Issue

Private Placements and Public Issues

15-3

Venture Capital

Since success of a new firm is highly dependent on the effort of the managers, restrictions are placed on management by the venture capital company and funds are usually dispersed in stages, after a certain level of success is achieved.

Venture Capital

Money invested to finance a new firm

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Venture Capital

2.0Value2.0Value

1.0equity originalYour 1.0assetsOther

1.0capital venturefromequity New 1.0equitynew from Cash

Equityand sLiabilitieAssets

($mil)Sheet BalanceValue Market StageFirst

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Venture Capital

14.0Value14.0Value

5.0equity originalYour 9.0assetsOther

5.0stage1st fromEquity 1.0assets Fixed

4.0stage 2nd fromequity New4.0equity new fromCash

Equity and sLiabilitieAssets

($mil)Sheet Balance ValueMarket Stage Second

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U.S. Venture Capital Investments

7.910.8

14.620.7

53.5

104.4

40.5

21.7 19.6 21.8 22.426.7

30.9 28.3

0

20

40

60

80

100

120$

Mil

lion

s

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

2008

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Initial Offering

Initial Public Offering (IPO) - First offering of stock to the general public.

Underwriter - Firm that buys an issue of securities from a company and resells it to the public.

Spread - Difference between public offer price and price paid by underwriter.

Prospectus - Formal summary that provides information on an issue of securities.

Underpricing - Issuing securities at an offering price set below the true value of the security.

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Motives For An IPO

Percent of CFOs who strongly agree with the reason for an IPO

15-9

The Top Managing Underwriters

UnderwriterValue of Issues

($billion) Number of issues

J.P.Morgan $455 1210Barclays Capital 401 1041Citi 309 986Deutsche Bank 309 807Merrill Lynch 241 852Goldman Sachs 228 584Morgan Stanley 220 661RBS 214 712Credit Suisse 205 682UBS 204 867

January – December 2008

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Average Initial IPO Returns

0 20 40 60 80 100

return (percent)

RussiaArgentinaAustriaCanadaDenmarkChileNorwayNetherlandsFranceTurkeySpainPortugalNigeriaBelgiumIsraelHong KongNexicoUKUSAFinlandItalyAustraliaNew ZealandIndonesiaPhilippinesIranPolandCyprusIrelandGreeceGermanySwedenSingaporeSwitzerlandS. AfricaBulgariaThailandTaiwanJapanBrazilSri LankaKoreaMalaysiaIndiaChina

165 %

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Initial Offering

Average Expenses on 1767 IPOs from 1990-1994Value of Issues

($mil)

Direct

Costs (%)

Avg First Day

Return (%)

Total

Costs (%)

2 - 9.99 16.96 16.36

10 - 19.99 11.63 9.65

20 - 39.99 9.7 12.48

40 - 59.99 8.72 13.65

60 - 79.99 8.2 11.31

80 - 99.99 7.91 8.91

100 - 199.99 7.06 7.16

200 - 499.99 6.53 5.70

500 and up 5.72 7.53

All Issues 11.00 12.05

25 16

18 15

18 18

17 95

16 35

14 14

12 78

11 10

10 36

18 69

.

.

.

.

.

.

.

.

.

.

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IPO Proceeds

IPO Proceeds and First Day Returns

15-13

General Cash Offers

Seasoned Offering - Sale of securities by a firm that is already publicly traded.

General Cash Offer - Sale of securities open to all investors by an already public company.

Shelf Registration - A procedure that allows firms to file one registration statement for several issues of the same security.

Private Placement - Sale of securities to a limited number of investors without a public offering.

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Underwriting Spreads (2008)

15-15

Total Direct Costs of Raising Capital

15-16

Rights Issue

Rights Issue - Issue of securities offered only to current stockholders.

Example – Xstrata needs to raise £ billion of new equity. The market price is £6.23/sh. Xstrata decides to raise additional funds via a 2 for 1 rights offer at £per share. If we assume 100% subscription, what is the value of each right?

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Rights Issue

Current Market Value = 1 x £6.23 = £6.23 Total Shares = 2+ 1 = 3 Amount of new funds = 2 x £2.10 = £4.20 New Share Price = (6.23+4.20) / 3 = £3.48 Value of a Right = 3.48 – 2.10 = £1.38

Example - Xstrata needs to raise £ billion of new equity. The market price is £6.23/sh. Xstrata decides to raise additional funds via a 2 for 1 rights offer at £per share. If we assume 100% subscription, what is the value of each right?

15-18

Rights Issue

Slightly More Difficult Example

Lafarge Corp needs to raise €1.28billion of new equity. The market price is €60/sh. Lafarge decides to raise additional funds via a 4 for 17 rights offer at €41 per share. If we assume 100% subscription, what is the value of each right?

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Rights Issue

Current Market Value = 17 x €60 = €1,020 Total Shares = 17 + 4 = 21 Amount of funds = 1,020 + (4x41) = €1,184 New Share Price = (1,184) / 21 = €56.38 Value of a Right = 56.38 – 41 = €15.38

Example - Lafarge Corp needs to raise €1.28billion of new equity. The market price is €60/sh. Lafarge decides to raise additional funds via a 4 for 17 rights offer at €41 per share. If we assume 100% subscription, what is the value of each right?

15-20

Web Resources

Click to access web sitesClick to access web sites

Internet connection requiredInternet connection required

www.nvca.org

www.evca.com

www.asianfn.com

www.pwcmoneytree.com

www.v1.com

www.vnpartners.com/primer.htm