Module 10 Flashcards by Georgie Foster

Functions of the equity markets (2)

Primary function

- Secondary function

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Primary function

Enables companies to raise new finance by communicating with large pool of potential shareholders

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Secondary function

Enables shareholders to sell existing shares

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Three different types of analysts

Buy-side analysts - large institutional investors
Sell-side analysts - investment banks
Independent analysts

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Why seek a stock market listing? (4)

Access to wider pool of finance
Improved marketability of shares
Enhanced public image
Easier to seek growth by acquisition

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Initial public offering (IPO)

Offer to sell shares in company to public for the first time. Can be existing shares owned by founders of business to realise profits, or new shares to raise additional capital (or both)

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Stages in IPO > Stage 1

Company appoints investment bank as lead manager (primary responsibility for IPO process)

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Stages in IPO > Stage 2

In larger issues, may need a syndicate of banks. Usually also underwrite (insure) the issue.

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Stages in IPO > Stage 3

Company will be valued by the investment bank using a range of methods

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Stages in IPO > Stage 4

Prospectus is drawn up and issued. Sets out details of company, financial statements, management information, trading history, business plan and reasons for IPO.

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Stages in IPO > Stage 5

Issue is publicised and underwriters assess demand for shares. Fixed price set (offer for sale) and allocation procedure is agreed

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Stages in IPO > Stage 6

Underwriters usually provide support after shares have been issued by acting as market makers, quoting bid and offer prices to market for shares. Ensures efficient and liquid market.

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Methods of issuing new shares (3)

Public issue
Placing
Rights issue

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Public issue =

Direct offer from the company to the public of the shares at a fixed price (usually advertised in a newspaper)

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Public issue advantages

Company sells shares itself

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Public issue disadvantages (3)

Expensive and time consuming (preparing and filing prospectus)
Risky (lack of guarantee)
Normally underwritten - adds to cost

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Private placement =

Shares sold privately to clients of the investment bank at a fixed issue price

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Private placement advantages (2)

Simpler

- Cheaper

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Private placement disadvantages (2)

Not underwritten
Control can be passed to small number of institutional investors therefore could wield more power than under an offer for sale

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Rights issue =

Company offers further shares at a given price to existing shareholders in proportion to their existing holding. (Therefore overall proportion of shareholding remains the same)

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Pre-emption rights

Built into Companies Act (2006 - when company wants to raise more capital through further issue of shares, they are obliged to offer the new shares to existing shareholders

Pricing a rights issue

Price of new shares will be at discount to current share price in order to encourage shareholders to take up rights or sell them.
Also acts as safeguard in case market price of shares falls before issue is completed

Effects of successful rights issue (4)

New shares are created, reducing the gearing ratio of the company
New finance is raised for the company
Total value of the whole company should be increased by extra finance raised
Price per share will fall

Rights issue > Stage 1

Discuss possibility of rights issue with merchant bankers

Rights issue > Stage 2

Public rights offer document, explains why rights issue is being made. Shareholders sent provisional allotment letters. Rights themselves can be traded by shareholders.

Rights issue > Stage 3

Accept or sell rights. Shareholders given approximately three weeks to accept or sell their nil-paid rights

Share price before rights issue formula

P = Market capitalisation ________________ Number of shares

Share price after rights issue formula

P1 = Original market capitalisation + Extra value _________________________________ Total new number of shares

Theoretical ex-rights price (TERP) =

The share price (in theory) after the rights issue

Possible courses of action in rights issue for shareholders (4)

- Take up all the rights - Sell on all the rights (nil-paid right) - Take up a proportion and sell on remaining - Do nothing (let rights lapse)

Underwriting (2)

- Doesn't have to be underwritten | - Advantage is that the company is certain to raise desired amount of extra money

7 Steps for rights issue question > Step 1

How much money to be raised

7 Steps for rights issue question > Step 2

Existing share price

7 Steps for rights issue question > Step 3

Revised FME

7 Steps for rights issue question > Step 4

Calculate number of shares to issue

7 Steps for rights issue question > Step 5

Design a scheme

7 Steps for rights issue question > Step 6

Price the rights issue

7 Steps for rights issue question > Step 7

Calculate TERP/ Nil paid right

Other types of share issue (4)

- Bonus issue - Share split - Employee shares - Offer for subscription

Bonus (scrip) issue

Company gives free shares to all ordinary shareholders in proportion to existing holding - occur when the share price is too high

Advantages of bonus issue (6)

- Marketability (lower share price) - Something for nothing - Past profitability (large retained earnings) - Future confidence - Increased dividends - More reasonable rate of dividends (not seen as excessive by public)

Disadvantages of bonus issue (2)

- Cost to the company | - Cost to everyone else

Share split ye

Splits the shares of a company into a larger number - increases marketability (no new funds)

Employee shares

Right for employee to buy share at pre-determined price within specified time period

Offer for subscription

Not all of the issue is underwritten as company can abort the issue if not enough shares are taken up. Should be stated upfront in offer documentation

If price is set too low in issue

- Signal that the board is too pessimistic | - Company may not raise the money it needs

If price is set too high in issue

Not all shares will be taken up - fail to raise finance requirement and cost of capital will increase

Factors to take into account when pricing issue (5)

- Comparable quoted company PE ratio - Current market conditions - Forecasts - Premium - Growth

Other types of listing (2)

- Introductions | - Dual listings

Introductions

Does not involve the sale of shares. Move from one market to another.

Dual listings

Company obtains listing on both foreign and domestic market

Benefits of dual listings (3)

- Reduced cost (if cheaper to raise finance elsewhere) - Increased access to finance - Reduced risk (diversification)