unit 11 | financing & listing securities Flashcards
Basic Forms of Business Organization
- Proprietorship
- Partnership
- Limited Partnerships
- General Partnerships
- Corporation
Proprietorship
- Most basic form of business ownership
- Exists for very simple, one-person businesses
- Proprietor is owner & operator of business
- The business is not a separate legal entity → owner is personally liable from a legal perspective
- Difficult for owners to generate/obtain capital to grow business
Partnership
Similar to proprietorship except that there are 2 or more owners
- Accounting & law firms stay because they don’t have a huge need for capital
Limited Partnerships
- Must include one general partner who has to be involved in the business & has personal liability
- Limited partners cannot be involved in business operations & liability is limited to their investment
- Many hedge fund are structured as limited partnerships
> Ex. KPMG LLP (Limited Liability Partnership)
> You resign from the firm once you become a partner (no longer employee) → have to buy equity
General Partnerships
- Partners have unlimited liability & partners are liable for the actions of all partners
- Most partnerships have moved away from this model in recent years given the liability issues
Corporation
- The most dominant form of organization when measured by dollars of assets or sales
- Separation is the key word:
> Ownership is separated from management
> Ownership is transferred by the buying & selling of shares
> Separate legal entity → owners do not have legal liability for corporation or employee actions - Easy access to capital
Regulation of corporations is governed by:
- Government act of incorporation
- The corporation’s charter (original act of incorporation setting out basic rules & regulations)
- By-laws (subsequent to charter, these are rules & regulations set by the corporation’s board of directors & approved by shareholders. Ex → compensation policies, payments of dividends, authority of senior management)
Shareholder rights (set by by-laws)
- Most decisions within a corporation are decided by the BOD and/or management
- Significant events like electing directors, selling the corporation (or even a lot of shares) requires shareholder approval
- Most decisions are passed with a 50.1% approval from shareholders
What is a proxy
A proxy allows someone else to vote on behalf of a shareholder (if given the right)
Why does proxy fights happen
Increasingly activist investors have engaged in proxy fights (or proxy contests) to influence boards or management teams
- Ex. Carl Icahn’s attempt to get Apple to return more cash to its shareholders
Incorporation process - shareholders
- Shareholders own the corporation & have the ultimate say in how the company runs
- BOD are elected by shareholders to ensure corporate decisions are made in the best interest of shareholders
- The Chief Executive Officer (CEO) of the corporation is typically on BOD
- The chairman of the BOD oversees & chairs board meetings & typically has greater influence on its actions
- CEO is sometimes the chairman → not liked by shareholders
- Boards are required to have a minimum # of independent directors → directors who are not management or aligned with a very large shareholder
Government & Corporate Financing
- Governments need capital
- Investors have capital
- Investment firms/investment dealers/brokerage firms act as the “go-between” to facilitate the raising of capital
> The government’s cost of capital is the investor’s return
> Therefore, the raising of capital is a negotiated process
Private placements
- Sales of corporate debt or equity to private investors
> Not done in public markets - Not available to the general public (one on one negotiation)
- Managed by investment dealers
- Typically do not require a prospectus
Why is there controversy around private placements?
Retail investors are not given access/fear that large institutions are given preferential access/valuation for securities
Public offerings
- The sale of securities (debt or equity) to the public from corporations
- Investment dealers manage the process
- A prospectus sets out the terms of the offering (timing, price, what the proceeds will be used for); lengthy legal document
- A greensheet (or bluesheet for RBC) is a marketing document (6-8 paged) that summarizes the offering & is used by the investment dealer to sell the offering
Initial public offering (IPO)
Sale of corporate equity for the first time
- When equity is first listed on a stock exchange or when they “go public”
How is the share price for an IPO determined?
- Investment dealer/underwriter will do extensive investigating (“due diligence”) about the corporation’s operations & financial viability
> From this, future financial projections are made
> Other similar companies are reviewed to see how they are valued
> Other similar IPOs are reviewed to see how they were valued - From these investigations & valuation discussions, a total value of the company is estimated
- A discount to this total value may be applied given that equity in the corporation is being sold for the first time
Why does company management go on “road shows”?
- To meet prospective investors gauge interest
- Investment dealer will gather feedback & “build a book”
Investors will indicate interest at various prices
How does value per share set to balance?
(i) high enough to maximize proceeds for corporation
(ii) low enough to ensure that all shares are sold & that there is positive buying in the market after the IPO
Secondary Issues (Equity Issues)
Issuance of equity after the first sale
Who gets the proceeds from the sale of stock?
- If the sale is newly issued shares, the corporation gets the proceeds and uses them to pay down debt, invest in new products/markets
- If the sale is from existing shares owned by current holders, those holders get the proceeds
Why are secondary issues often done under the Short-Form Prospectus Distribution (SFPD) System?
- Allows companies to issue “short-form” prospectuses which are much shorter than prospectuses for IPOs
- Saves a great amount of time, hassle & money
What are short-form prospectuses most often used for?
“Bought deals”
- Investment dealers/underwriters “buy the deal”
- Corporation is guaranteed proceeds
What if overnight markets decline or investors are not interested in buying the issue?
For example, what if share price declines & stock sales at $45
- Investment dealers lose $1 per shares
- Worse → what if investment dealers cannot sell all of the offering & have to hold the shares; if their value continues to decline, tens of $$$ millions can be lost (+ a few jobs for those that made the decisions for that bought deal)
