Chapter 15 Principles of Corporate Finance Tenth Edition

Chapter 15 Principles of Corporate Finance Tenth Edition How Corporations Issue Securities Mc. Graw-Hill/Irwin Copyright © 2011 by the Mc. Graw-Hill Companies, Inc. All rights reserved.

Topics Covered Ø Venture Capital Ø The Initial Public Offering Ø Alternative Issue Procedures for IPOs Ø Security Sales by Public Companies – Rights Issue Ø Private Placements and Public Issues 15 -2

Venture Capital Money invested to finance a new firm 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. 15 -3

Venture Capital 15 -4

Venture Capital 15 -5

U. S. Venture Capital Investments 15 -6

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. 15 -7

15 -8 Motives For An IPO Percent of CFOs who strongly agree with the reason for an IPO To create public shares for use in future acquisitions 59, 4 To establish a market price/value for our firm 51, 2 To enhance the reputation of our company 49, 1 To broaden the base of ownership 45, 9 To allow one or more principals to diversify personal holdings 44, 1 To minimize our cost of capital 42, 5 To allow venture capitalists to cash out 32, 2 To attract analysts' attention 29, 8 Our company has run out of private equity 27, 6 Debt is becoming too expensive 14, 3 0 10 20 30 40 50 60 70

The Top Managing Underwriters January – December 2008 15 -9

Average Initial IPO Returns 15 -10

Initial Offering Average Expenses on 1767 IPOs from 1990 -1994 15 -11

15 -12 IPO Proceeds Ø IPO Proceeds and First Day Returns 80 70 60 50 40 Issue proceeds ($bn) First-day return 30 20 10 2008 2007 2006 2005 2004 2003 2002 2001 2000 1999 1998 1997 1996 1995 1994 1993 1992 1991 1990 0

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. 15 -13

Underwriting Spreads (2008) 15 -14

Total Direct Costs of Raising Capital 15 -15

Rights Issue - Issue of securities offered only to current stockholders. Example – Xstrata needs to raise £ 4. 1 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 £ 2. 10 per share. If we assume 100% subscription, what is the value of each right? 15 -16

Rights Issue Example - Xstrata needs to raise £ 4. 1 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 £ 2. 10 per share. If we assume 100% subscription, what is the value of each right? ÞCurrent Market Value = 1 x £ 6. 23 = £ 6. 23 ÞTotal Shares = 2+ 1 = 3 ÞAmount of new funds = 2 x £ 2. 10 = £ 4. 20 ÞNew Share Price = (6. 23+4. 20) / 3 = £ 3. 48 ÞValue of a Right = 3. 48 – 2. 10 = £ 1. 38 15 -17

Rights Issue Slightly More Difficult Example Lafarge Corp needs to raise € 1. 28 billion 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 -18

Rights Issue Example - Lafarge Corp needs to raise € 1. 28 billion 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? ÞCurrent Market Value = 17 x € 60 = € 1, 020 ÞTotal Shares = 17 + 4 = 21 ÞAmount of funds = 1, 020 + (4 x 41) = € 1, 184 ÞNew Share Price = (1, 184) / 21 = € 56. 38 ÞValue of a Right = 56. 38 – 41 = € 15. 38 15 -19

Web Resources Click to access web sites Internet connection required www. nvca. org www. evca. com www. asianfn. com www. pwcmoneytree. com www. v 1. com www. vnpartners. com/primer. htm 15 -20