Finance: Equity Financing

Costs of Selling Stock to the Public

1. Gross spread (fees paid by issuer to underwriting syndicate) 2. Other direct expenses (filing fees, legal fees, taxes - reported on prospectus)

Underwriters

A company or other entity that administers the public issuance and distribution of securities from a corporation or other issuing body. An underwriter works closely with the issuing body to determine the offering price of the securities, buys them from the issuer and sells them to investors via the underwriter's distribution network

The Green Shoe Provision

A contract provision giving the underwriter the option to purchase additional shares from the issuer at the offering price; also called the over allotment option

Lease

A contractual agreement between two parties: lessee and lessor

Initial Public Offering (IPO)

A corporations first offering of stock to the public. An opportunity for the existing investors and participating capitalists to make big profits, since for the first time their shares will be given a market value reflecting expectations for the company's future growth.

Tax-Oriented Lease

A financial lease in which the lessor is the owner for tax purposes. Makes most sense when lessee is not in a position to efficiently use tax credits or depreciation deductions that come with asset ownership.

Syndicate

A group of underwriters formed to share the risk and help sell an issue

Financial Lease

A longer term, fully amortized lease under which the lessee is responsible for maintenance, taxes, and insurance; usually not cancelable by the lessee without penalty. Three types: 1. Tax-Oriented Lease 2. Leveraged Leases 3. Sale and Leaseback Agreements

Enterprise Value

A measure of a company's value, often used as an alternative to straightforward market capitalization. Enterprise value is calculated as market cap plus debt, minority interest and preferred shares, minus total cash and cash equivalents. Think of enterprise value as the theoretical takeover price. In the event of a buyout, an acquirer would have to take on the company's debt, but would pocket its cash.

Seasoned Equity Offering (SEO)

A new equity issue of securities by a company that has previously issued securities to the public

Red Herring

A preliminary prospectus distributed to prospective investors in a new issue of securities.

Red Herring

A preliminary registration statement that must be filed with the SEC describing a new issue of stock and the prospects of the issuing company.

Rights Offer

A public issue of securities in which securities are first offered to existing shareholders

Preemptive Rights

A right giving existing stockholders the opportunity to purchase shares of a new issue before it is offered to others. Its purpose is to protect shareholders from dilution of value and control when new shares are issued. Since the new shares would typically be priced below the market, a financial incentive exists to exercise the right. If the right is not exercised, however, it can be sold.

Operating Lease

A shorter-term leaser under which the lessor is responsible for insurance, taxes, and upkeep. Can be canceled on short notice.

Registration Statement

A statement filed with the SEC that discloses all material information concerning corporation making a public offering

Flipping

A type of real estate investment strategy in which an investor purchases properties with the goal of reselling them for a profit. Profit is generated either through the price appreciation that occurs as a result of a hot housing market and/or from the first day pop. Buy at offering price, sell on the first day at high IPO price`

Tombstone

A written advertisement placed by investment bankers in a public offering of a security. It gives basic details about the issue and, in order of importance, the underwriting groups involved in the deal.

Oversubscription Privilege

Allows shareholders to purchase unsubscribed shares in a rights offering at the subscription price. Failure to exercise valuable rights is rare and usually due to ignorance or vacations.

General Cash Offer

An issue of securities offered for sale to the general public on a cash basis

Term loans

Direct business loans of typically 1 to 5 years.

Private Equity

Equity financing for nonpublic companies

SEC Rule 144a

Exempt U.S and foreign corporations from registration requirements in the sale of stock and bond offerings to "some large institutions." Allows institutional investors to freely trade most privately placed securities among themselves. That would make private placements as liquid as many public debt offerings without the hassle and expense of SEC.

Sale and Leaseback Agreements

Financial leases in which lessee sells and asset to lessor and then leases it back.

Leveraged Leases

Financial leases in which the lessor borrows a substantial fraction of the cost of the leased asset.

Cost of Preferred Stock

Has a fixed dividend so is essentially a perpetuity. Rp = D/Po

Flotation Costs

If a company accepts a new project, it may require to issue, or float, new bonds and stocks. These new costs are called _______

"Angel" Investors

Individual venture capitalists that invest their own money

Venture Capital

Is an important source of financing for start-up companies or other embarking on new or turnaround ventures that entail some investment risk but offer the potential for above average future profits; also called risk capital.

Dilution

Loss in existing shareholder's value in terms of ownership, market value, book value, or EPS

SEC Rule 415: Shelf Registration

Permits corporations to file a registration for securities they intend to issue in the future when market conditions are favorable. Shelf registration allows a corporation to comply with registration requirements up to two years prior to a public offering of securities. With the registration "on the shelf" the corporation, by simply updating reports to SEC, can go to the market as conditions become favorable.

What is a "road show"

Road shows refer to when the management of a company that is issuing securities or doing an initial public offering (IPO) travels around the country to give presentations to analysts, fund managers and potential investors. The road show is intended to generate excitement and interest in the issue or IPO, and is often critical to the success of the offering.

SEC Rule 144: Public Sale of Unregistered Securities

Sets fourth the conditions under which a holder of unregistered securities may make a public sale without filing a formal registration statement. No letter security purchased through a private placement may be sold for at least two years after the date of purchase.

Lockup

The 180-day period after an IPO during which insiders are not legally allowed to sell their shares.

Regulation A

The SEC regulation that exempts public issues of less than $5 million from most registration requirements.

Standby fee

The amount paid to the underwriter participating in a standby underwriting agreement

WACC

The average (overall) required return the firm must earn on its existing assets to maintain the value of its stock.

Ex rights date

The beginning of the period when stock is sold without a recently declared right

Gross spread

The difference between the underwriting price received by the issuing company and the actual price offered to the investing public. The gross spread is the compensation that the underwriters of an initial public offering (IPO) make to cover expenses, management fees, commission (or takedown) and risk. The majority of profits that the underwriting firm earns through the deal are often achieved through the gross spread. In addition to the gross spread, an initial public offering typically involves "fixed costs," such as legal and accounting consultants, and registration fees.

Secondary Distribution

The issuance of new stock for public sale from a company that has already made its initial public offering (IPO). Usually, these kinds of public offerings are made by companies wishing to refinance, or raise capital for growth. Money raised from these kinds of secondary offerings goes to the company, through the investment bank that underwrites the offering. Investment banks are issued an allotment, and possibly an overallotment which they may choose to exercise if there is a strong possibility of making money on the spread between the allotment price and the selling price of the securities.

Prospectus

The legal document describing details of issuing corporation and proposed offering to potential investors.

The Modified Accelerated Cost Recovery System (MACRS)

The new accelerated cost recovery system, created after the release of the Tax Reform Act of 1986, which allows for greater accelerated depreciation over longer time periods. Faster acceleration allows individuals to deduct greater amounts during the first few years of an asset's life.

Lessor

The owner of an asset in a leasing agreement; the lessor receives payments from the lessee.

Cost of Equity

The return that equity investors require on their investment in the firm. Can be estimated using the dividend growth model approach and the security market line approach (CAPM).

Cost of Debt

The return that lenders require on the firm's debt. Cost of debt can normally be observed as the interest rate the firm must pay on new borrowing.

Primary Distribution

The sale of a new issue of stocks or bonds, as distinguished from a secondary distribution, which involves previously issued stock. All issuance of bonds are primary distributions. Also called a primary offering.

Private placements

The sale of securities to a relatively small number of select investors as a way of raising capital. Investors involved in private placements are usually large banks, mutual funds, insurance companies and pension funds. Private placement is the opposite of a public issue, in which securities are made available for sale on the open market.

Private Placement

The sale of securities to a relatively small number of select investors as a way of raising capital. Investors involved in private placements are usually large banks, mutual funds, insurance companies and pension funds. Private placement is the opposite of a public issue, in which securities are made available for sale on the open market. It does not have to be registered with the SEC.

Dutch Auction Underwriting

The type of underwriting in which the offer price is set based on competitive bidding by investors; also known as a uniform price auction.

Firm Commitment Underwriting

The type of underwriting in which the underwriter buys the entire issue, assuming full financial responsibility for any unsold shares

Best Efforts Underwriting

The type of underwriting in which the underwriter sells as much of he issue as possible, but can return any unsold shares to the issuer without financial responsibility

Standby underwriting

The type of underwriting in which underwriter agrees to purchase the unsubscribed portion of the issue

Pure Play Approach

The use of a WACC that is unique to a particular project, based on companies in similar lines of business.

Lessee

The user of an asset in a leasing agreement; lessee makes payments to lessor.

Bake Off

When bankers interested in handling a company's IPO are invited to pitch to their board.

Tax on Salvage Value

a. Screw company b. If you sell for more than book value c. Difference between the salvage and book value

Preferred vs Preference stock

preferred stock that is junior to regular preferred stock