An Initial Public Offering or Initial Purchase Offer

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  • 7/31/2019 An Initial Public Offering or Initial Purchase Offer


    An initial public offering or initial purchase offer (IPO), referred to simply as an "offering" or"flotation", is when a company (called the issuer) issuescommon stockorsharesto the publicfor the first time. They are often issued by smaller, younger companies seekingcapitalto expand,but can also be done by largeprivately owned companieslooking to becomepublicly traded.

    In an IPO the issuer obtains the assistance of anunderwritingfirm, which helps determine whattype ofsecurityto issue (common orpreferred), best offering price and time to bring it to market.



    1 History 2 Reasons for listing 3 Disadvantages of an IPO 4 Procedure 5 Auction 6 Pricing 7 Issue price 8 Quiet period 9 Stag profit 10 Largest IPOs 11 See also 12 References 13 External links 14 Further reading

    [edit] History

    This section requiresexpansion.

    In 1602, theDutch East India Companywas the first company to issue stocks and bonds in theworld in an initial public offering.[1]

    [edit] Reasons for listing

    When a company lists its securities on apublic exchange, the money paid by investors for thenewly issued shares goes directly to the company (in contrast to a later trade of shares on theexchange, where the money passes between investors). An IPO, therefore, allows a company totap a wide pool of investors to provide it with capital for future growth, repayment of debt orworking capital. A company selling common shares is never required to repay the capital toinvestors.
  • 7/31/2019 An Initial Public Offering or Initial Purchase Offer


    Once a company is listed, it is able to issue additional common shares via a secondary offering,thereby again providing itself with capital for expansion without incurring any debt. This abilityto quickly raise large amounts of capital from the market is a key reason many companies seek togo public.

    There are several benefits to being a public company, namely:

    Bolstering and diversifying equity base Enabling cheaper access to capital Exposure, prestige and public image Attracting and retaining better management and employees through liquid equity

    participation Facilitating acquisitions Creating multiple financing opportunities: equity, convertible debt, cheaper bank loans, etc. Increased liquidity for equity holder

    [edit] Disadvantages of an IPO

    There are several disadvantages to completing an initial public offering, namely:

    Significant legal, accounting and marketing costs Ongoing requirement to disclose financial and business information Meaningful time, effort and attention required of senior management Risk that required funding will not be raised Public dissemination of information which may be useful to competitors, suppliers and


    [edit] Procedure

    IPOs generally involve one or moreinvestment banksknown as "underwriters". The companyoffering its shares, called the "issuer", enters a contract with a lead underwriter to sell its sharesto the public. The underwriter then approaches investors with offers to sell these shares.

    The sale (allocation and pricing) of shares in an IPO may take several forms. Common methodsinclude:

    Best efforts contract

    Firm commitment contract All-or-none contract Bought deal Dutch auction

    A large IPO is usually underwritten by a "syndicate" of investment banks led by one or moremajor investment banks (lead underwriter). Upon selling the shares, the underwriters keep acommissionbased on a percentage of the value of the shares sold (called thegross spread).
  • 7/31/2019 An Initial Public Offering or Initial Purchase Offer


    Usually, the lead underwriters, i.e. the underwriters selling the largest proportions of the IPO,take the highestcommissionsup to 8% in some cases.

    Multinational IPOs may have many syndicates to deal with differing legal requirements in boththe issuer's domestic market and other regions. For example, an issuer based in the E.U. may be

    represented by the main selling syndicate in its domestic market, Europe, in addition to separatesyndicates or selling groups for US/Canada and for Asia. Usually, the lead underwriter in themain selling group is also the lead bank in the other selling groups.

    Because of the wide array of legal requirements and because it is an expensive process, IPOstypically involve one or morelaw firmswith major practices insecurities law, such as theMagicCirclefirms of London and thewhite shoe firmsof New York City.

    Public offerings are sold to both institutional investors and retail clients of underwriters. Alicensed securities salesperson (Registered Representativein the USA and Canada ) sellingshares of a public offering to his clients is paid a commission from their dealer rather than their

    client. In cases where the salesperson is the client's advisor it is notable that the financialincentives of the advisor and client are not aligned.

    In the US sales can only be made through a final prospectus cleared by the Securities andExchange Commission.

    Investment dealerswill often initiate research coverage on companies so theirCorporate Financedepartments and retail divisions can attract and market new issues.

    The issuer usually allows the underwriters an option to increase the size of the offering by up to15% under certain circumstance known as thegreenshoeor overallotment option.

    [edit] Auction

    This section does notciteanyreferences or sources. Please help improve thissection by adding citations toreliable sources. Unsourced material may bechallengedandremoved.(December 2006)

    A venture capitalist namedBill Hambrechthas attempted to devise a method that can reduce theinefficient process. He devised a way to issue shares through aDutch auctionas an attempt tominimize the extreme underpricing that underwriters were nurturing. Underwriters, however,

    have not taken to this strategy very well which is understandable given that auctions arethreatening large fees otherwise payable. Though not the first company to use Dutch auction,Googleis one established company that went public through the use of auction. Google's shareprice rose 17% in its first day of trading despite the auction method. Brokers close to the IPOreport that the underwriters actively discouraged institutional investors from buying to reducedemand and send the initial price down. The resulting low share price was then used to"illustrate" that auctions generally don't work.


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