Primary & Secondary Markets; Executing a Trade (Unit 1)

Question 1

Issuer transactions

Answer 1

Happens in the primary market where securities are sold by the issuer (gov’t or corp) to the investing public

Question 2

Primary market or primary offer

Answer 2

Issuer is selling a security to raise capital

Question 3

Why would an issuer sell securities and what market is it

Answer 3

Primary market;
they can raise capital relatively quickly to take advantage of changes in economy or can raise money for infrastructure programs

Question 4

Purpose of Securities Act of 1933

Answer 4

• registration of new issues (unless exempt)
• require full and fair disclosure in connection with the sale of securities to the public
• require all investors receive prospectus before purchase and make available all info necessary for an investor to judge the issue’s merit
• regulate the underwriting and distribution of primary issues
• provide criminal penalties for fraud in the issuance of new securities
• detail steps taken before a new issue is brought to market

Question 5

Definition of prospectus

Answer 5

A detailed disclosure document that all investors must receive prior to purchase in accordance with the Securities Act of 1933

Question 6

Types of offerings to the public in primary market

Answer 6

IPOs and APOs

Question 7

Definition of IPO

Answer 7

The first time an issuer distributes securities to the public

Question 8

Definition of APO

Answer 8

Also known as Follow-On Offerings; can be multiple over time; these are primary so proceeds go to issuer; it comes after IPO (so shares are already available to public

Question 9

Who can be an issuer?

Answer 9

Corporations, municipalities, and federal government

Question 10

National Market System (NMS)

Answer 10

Large corporations’ stocks that, after being issued, trad on a national exchange or Nasdaq; as opposed to non-NMS securities

Question 11

Who can be an underwriter?

Answer 11

Broker-dealers, and investment bankers

Question 12

What do investment bankers do?

Answer 12

Help the issuer structure new issues and, at times, for syndicates with other underwriters to facilitate this capital-raising process

Question 13

Types of underwriting commitments

Answer 13

Best efforts, and firm commitment

Question 14

Best efforts underwriting

Answer 14

Underwriters (or syndicate) sells securities from issuer to the investor acting simply as an agent
- low risk for underwriters because they’re not purchasing shares themselves
- closed by collecting client funds into an escrow account so now underwriter capital is at risk

Question 15

Two types of best efforts underwritings

Answer 15

All-or-none (AON), and mini-max

Question 16

AON underwriting

Answer 16

• Best Efforts
• issuer wants an agreement that BD must sell all the shares or cancel the underwriting
• uncertain outcome
• so funds collected from investors in offering period are held in escrow pending final disposition of the underwriting

Question 17

Mini-max underwriting

Answer 17

• Best Efforts
• issuer sets minimum amount (the floor) the issuer needs to raise to move forward with the underwriting
• issuer sets maximum amount of securities they are willing to sell
• BD finds enough interested buyers to support the floor
• BD then expands to ceiling

Question 18

Firm Commitment underwriting

Answer 18

• widely used
• underwriters contract with the issuer to buy the securities then resell to public at higher price (POP) and earn difference (spread) for their work
• underwriters are at risk for shares they can’t sell to public

Question 19

Definition of syndicate

Answer 19

A joint venture common in large firm commitment underwritings where a group of BDs share both the risk and profits from the underwriters

Question 20

Types of investors in primary market

Answer 20

Institutional, retail, and accredited

Question 21

Institutional investors definition

Answer 21

Entity that pools money to purchase securities (banks, pensions, hedge funds, etc.)

Question 22

QIB (qualified institutional buyers) definition

Answer 22

An institutional investor that owns and invests a minimum of $100 million in securities on a discretionary basis

Question 23

Retail investor definition

Answer 23

An investor that doesn’t qualify as an institution; requires higher communication and disclosures because they’re not as knowledgable

Question 24

Accredited investor definition

Answer 24

A subset of all institutional investors and some retail investors. Retail investors include meeting one or more of the following:
- insiders of the issuer (officers, major stockholders)
- those who meet certain financial criteria (income of $200k+ in last 2 years OR net worth of $1M+ not including primary residence)
- people qualified based on certain professional certifications or credentials
- holders of Series 7, 65, 82

Question 25

Rule 501 of Regulation D of the Securities Act of 1933

Answer 25

Qualifications for accredited investors who don't need the same level of protection given their higher sophistication level than the average retail investor

Question 26

Municipal advisor definition

Answer 26

Type of investment banker than advises municipalities on issuing debt and securities, but can't be compensated as part of the sale of issue they provide advise on - so can't switch roles from advisor to underwriter

Question 27

Process of bringing a new issue to market as outlined in the Securities Act of 1933

Answer 27

- file a registration statement (S-1) - complete the cooling-off period

Question 28

Registration statement (S-1)

Answer 28

First step in process to register primary issue with SEC; statement discloses material info about the issue; part of the statement is the prospectus which must be provided to all purchasers of the new issue; must include: - description of issuer's business - names, addresses, salaries, and 5-year business history of company officers and directors - amount of corporate securities company officers and directors own and identification of investors who own 10%+ of company - company's capitalization including equity and debt - description of how proceeds will be used - whether the company is involved in any legal proceedings

Question 29

The Cooling-Off Period

Answer 29

- step 2 of the issuing of new securities - lasts for minimum of 20 calendar days - if the SEC finds the S-1 needs revision or expansion, it'll suspend the review and issue a deficiency letter to the issuer - 20-day period resumes with a corrected S-1 - no sales or solicitation of sales of the security during this period - other activities are allowed

Question 30

Activities allowed during the cooling-off period

Answer 30

- issuers (or with the help of underwriters) to place tombstone ads - a preliminary prospectus (red herring) may be delivered - indications of interest may be gathered - due diligence from the underwriters - state registration (blue-sky filings) requirements are addressed - the release (or effective) date is reached

Question 31

Tombstone ads

Answer 31

- the only type of ad allowed to be run during cooling-off period - barebone, minimal info - announcement and description of the securities to be offered - can be placed by issuer directly or with assistance of underwriters - limited to name of issuer, type of security being offered, number of shares to be sold, POP or range, names of underwriting members (when placed by underwriters - must contain a required, common advisory statement

Question 32

Preliminary prospectus (red herring)

Answer 32

- can be used as a prospecting tool during the cooling-off period - must be made available to any customer who expresses interest in the securities during the cooling-off period - allows issuers and underwriters to gauge investor interest and indications of interest

Question 33

Indications of interest during the cooling-off period

Answer 33

Non-binding expression of interest from an investor to buy securities when they are available

Question 34

Due diligence during the cooling-off period

Answer 34

Underwriters examine the issue to determine suitable customers; hold meetings to present findings to representatives offering the security to their customers

Question 35

State registration requirements (blue-sky filings) addressed during the cooling-off period

Answer 35

- process of coordinating federal and state registrations - when properly files, security is registered in the state at same time it is released by the SEC

Question 36

Release (or Effective) date

Answer 36

- on or after the cooling-off period - investors may purchase the issue - SEC uses non-endorsing language - will enter secondary markets shortly after the IPO

Question 37

Final prospectus

Answer 37

- made available at release - delivered to all who purchase the new security at IPO - same info as red herring plus release date and POP - copy must proceed or accompany all sales confirms - must include desc of the offering, offering price, selling discounts, release date, use of the proceeds, description of the underwriting, history of the business, risk to purchasers, description of management, material financial info, legal opinion concerning the formation of the corporation, SEC disclaimer

Question 38

Standard SEC disclaimer

Answer 38

These securities have not been approved or disapproved by the SEC, nor have any representations been made about the accuracy or the adequacy of the information

Question 39

Hybrid, split, or combination offerings

Answer 39

Types of IPO where the corporation allows some existing shareholders (founders, early investors, etc) to sell their shares along with the newly issued shares

Question 40

Shelf offering

Answer 40

Issuers who are already publicly traded companies can register new securities but have 2 years (3-year for WKSI like companies on major exchanges) to sell the shares so they don't have to reregister the security and wait until market conditions are favorable. A supplemental prospectus must be filed with the SEC before each sale

Question 41

Prospectus delivery rules from primary to secondary market

Answer 41

Investors that purchase IPO or APO shares on secondary market are entitled to final prospectus if the purchase is made within a certain number of days of the release date NMS securities: IPO - 25 days APOs - 0 days (no requirement) non-NMS securities IPOs - 90 days APOs - 40 days Access to the prospectus on the SEC website is sufficient for requirements

Question 42

Who is exempt from registration of securities?

Answer 42

Issuers: US government, munis, national and state banks (but not bank holding companies), S&Ls, nonprofits, common carriers Issues: commercial paper, bankers' acceptances, and other securities that have maturities of 270 days or less insurance policies and fixed annuity contracts (but not variable annuities) Transactions: Regulation A Tier 1 and 2; Rule 147; Regulation D

Question 43

Regulation A definition

Answer 43

Rule to ease small and medium-sized offerings; has Tier 1 and Tier 2; open to the public; advertising/solicitation allowed; investment limits only on Tier 2

Question 44

Regulation A Tier 1

Answer 44

Securities offerings up to $20M in 12-month period; of the $20M, no more than $6M can be sold on behalf of existing selling shareholders (like combo offering); SEC and state review; no investment limits

Question 45

Regulation A Tier 2

Answer 45

Securities offerings up to $75M in 12-month period; of the $75M, no more than $22.5M can be sold on behalf of existing selling shareholders (like combo offering); SEC review only; must be qualified investor

Question 46

Qualifications for investing in Regulation A Tier 2

Answer 46

Be an accredited investor Limit to max of 10% of investor's net worth or net income (self-certification)

Question 47

Rule 147

Answer 47

The Intrastate Offering Rule Required: take place in 1 state, HQ is in state, all purchasers are residents of state, BD is based in the state (if used), not sold to nonresidents for 6 months Meet 1: 80% of income is in the state, 80% of issuers' assets are in the state; 80% of proceeds are used in the state; majority of company's employee's work in the state

Question 48

Regulation D

Answer 48

Private Placements under rule 506(b); doesn't require registration as long as there are no more than 35 non-accredited investors; must have access to same type of info as nonexempt securities; must sign letter with legend; must file Form D Also called: restricted, unregistered, letter stock, legend stock

Question 49

Solicitations/advertising with Regulation D

Answer 49

Can advertise/solicitate private placements if all purchasers are accredited investors

Question 50

Official statement

Answer 50

Used in munis; = prospectus

Question 51

Offering circular or notice of sale

Answer 51

Used in exempt securities; = prospectus but not as detailed in disclosures

Question 52

Securities Exchange Act of 1934

Answer 52

Regulates how securities are traded on the secondary market; created the SEC; regulates trading on exchanges and OTC

Question 53

Market centers

Answer 53

Locations (physical and digital) where buyers and sellers gather and trade; 4 types of market centers