MBF2273 Fund Management

1. MBF2273 Fund Management L4: Initial Public Offering

2. Google IPO In August of 2004, Google went public, auctioning its shares in an unusual IPO format. The shares originally sold for $85 / share, and closed at over $100 on the first day. In November of 2010, shares are trading on Nasdaq at over $620 / share.

3. Facebook IPO Facebook held its IPO on May 18, 2012. The IPO was one of the biggest in technology, and the biggest in Internet history, with a peak market capitalization of over $104 billion.  Offer price was $38/share. It closed at $38.23/share. The IPO raised $16 billion, making it the third largest in U.S. history (just ahead of AT&T Wireless and behind only General Motors and Visa Inc.). The stock price left the company with a higher market capitalization than all but a few U.S. corporations – surpassing heavyweights such as Amazon.com, McDonald's, Disney, and Kraft Foods – and made Zuckerberg's stock worth $19 billion.

4. Initial Public Offering • The process of selling stock to the public for the first time is called an initial public offering (IPO). • It is also referred to as “going public” or “unseasoned new issue”. • The shares sold at an IPO may either be new shares that raise new capital, known as a primary offering, or existing shares that are sold by current shareholders, known as a secondary offering.

5. The IPO Process Appointment of Advisers • A number of professional firms are involved in IPO exercises: • Investment Bank as Principal Adviser • Legal Firm (provide advice on all legal matters in relation to your application) • Accountants (prepare the Accountants’ Report as well as undertake the due diligence on the application documents) • Property Valuer(if company’s listing exercise involves any property, plant, machinery an equipment that have been or to be revalued) • Issuing House (will oversee the balloting, issuance and allotment process of your company’s shares)

6. The IPO Process Step 1: Appointing Professionals Step 2: Implementing Organisational Changes Step 3: Appointing Independent Directors Step 4: Method of Listing and Valuation Step 5: Preparing Documents for Submission Step 6: Submission and Review Step 7: Approvals Step 8: Registration of the Prospectus Step 9: Investor Briefings Step 10: Balloting Process Step 11: Listing

7. The IPO Process • The approval IPO process differs from to country to country. In Malaysia, the applications are submitted to the Securities Commission and Bursa Malaysia (the Malaysian stock exchange). • Subsequent to the above approvals, a Prospectus must be issued by the company to investors. • A prospectus is a document setting out the terms of its equity issue. • It provides information on the company, and financial performance of the company so that investors are able to make informed decisions about whether to invest. • The must be lodged with authorities (with the Securities Commission in Malaysia).

8. The Approval Process

9. Pricing • Pricing • The offer price is determined by the lead underwriter together with the issuer • During the road show, the number of shares demanded at various prices is assessed • The investment bank and underwriters will work with the company to come up with a price that they believe is a reasonable valuation for the firm and the price at which the company’s shares will be offered to investors. • Two ways used to value a company: • Estimate the future cash flows and calculate the present value; or • Examine comparable companies. • Also take into account the net assets of the company, PE ratio, future prospects etc

10. Transaction and Costs • Transaction costs • Advisory fees (Investment Bank, legal firm, accountants, and other professionals) • Underwriting fee • In the US the issuing firm typically pays 7 percent of the funds raised (M’sia: 3-4%) • The lead underwriter typically forms a syndicate with other firms who receive a portion of the transaction costs • Lock-up provision/moratorium • Prevents the original owners from selling shares for a specified period • Prevents downward pressure • When the lockup period expires, the share price commonly declines significantly

11. Investor Participation in the Secondary Market • How investor decisions affect the stock price • Investors buy or sell shares based on their valuation of the stock relative to the prevailing market price • Investors arrive at different valuations which means there will be buyers and sellers at a given point in time • As investors change their valuations of a stock, there is a shift in the demand for and supply of shares and the equilibrium price changes

12. Investor Participation in the Secondary Market • How investor decisions affect the stock price • Investor reliance on information • Favorable news increases the demand for and reduces the supply of the security • Unfavorable news reduces the demand for and increases the supply of the security • Investors continually respond to new information in their attempt to purchase or sell stocks

13. Type of Investors • Types of investors • Individual investors typically hold more then 50 percent of the total equity in a large corporation • Ownership is scattered • Institutional investors have large equity positions in corporations and have more voting power • Can influence corporate policies through proxy contests • Insurance companies, pension funds, and stock mutual funds are common purchasers of newly issued stock in the primary market • The collective sales and purchases of stocks by institutions can significantly affect stock market prices

14. Monitoring by Investors • Managers serve as agents for shareholders to maximize the stock price • Managers may be tempted to serve their own interests rather than those of investors • Shareholders monitor their stock’s price movements to assess whether the managers are achieving their goal • When the stock price declines or does not rise as high as shareholders expected, shareholders may blame the weak performance on the firm’s managers

15. Shareholder activism • Communication with the firm • Shareholders can communicate their concerns to other investors to place more pressure on managers or its board members • Institutional investors commonly communicate with high-level corporate managers and offer their concerns • Institutional Shareholder Serves (ISS) Inc. is a firm that organizes institutional shareholders to push for a common cause

16. Shareholder activism • Shareholder lawsuits • Investors may sue the board if they believe that the directors are not fulfilling their responsibilities to shareholders • Lawsuits are often filed when corporations prevent takeovers, pursue acquisitions, or make other restructuring decisions that shareholders believe will reduce the stock’s value • When directors are sued, courts typically focus on whether the director’s decision seems reasonable, rather than on whether the decision led to higher profitability

17. The Corporate Monitoring Role • If managers believe their stock is undervalued in the market, they may take actions to capitalize on this discrepancy • Stock repurchases • Use excess cash to purchase shares in the market at a low price • Stock prices respond favorably to stock repurchase announcements

18. The Corporate Monitoring Role • Market for corporate control • A firm may engage in acquisitions to increase the value of a target firm • Can also create synergistic benefits • A high stock price is useful to exchange acquirer shares for target shares • Share prices of target firms react very positively • Leveraged buyouts • LBOs are acquisitions that require substantial amounts of borrowed funds

19. Barriers to corporate control • Antitakeover amendments are designed to protect shareholders against an acquisition that will ultimately reduce the value of their investment in the firm • e.g., may require at least two-thirds of shareholder votes to approve a takeover • Poison pills are special rights awarded to shareholders or specific managers upon specified events • e.g., the right for all shareholders to be allocated an additional 30 percent of all shares without cost whenever a potential acquirer attempts to acquire the firm

20. Barriers to corporate control • A golden parachute specifies compensation to managers in the event that they lose their jobs • e.g., all managers have the right to receive 100,000 shares of the firm’s stock whenever the firm is acquired

21. Globalization of Stock Markets • Barriers between countries have been removed or reduced • Firms in need of funds can tap foreign markets • Investors can purchase foreign stocks • Foreign stock offerings in the U.S. • Large privatization programs in Latin America and Europe can not be digested in local markets • By issuing stock in the U.S., foreign firms diversify their shareholder base • SEC regulations may prevent some firms from offering stock in the U.S.

22. Globalization of Stock Markets • International placement process • Many U.S. investment banks and commercial banks provide underwriting services in foreign countries • Listing on a foreign stock exchange: • Enhances the liquidity of the stock • May increase the firm’s perceived financial standing • Can protect the firm against hostile takeovers • Entails some costs

23. Globalization of Stock Markets • Global stock exchanges • Stocks outside the U.S. have been issuing stock more frequently • The percentage of individual versus institutional ownership varies across countries • Emerging stock markets: • Enable foreign firms to raise large amounts of capital by issuing stock • Provide a means for investors from other countries to invest their funds • May not be as efficient as the U.S. stock market • May exhibit high returns and high risk • May be volatile because of fewer shares and trading based on rumors

24. Globalization of Stock Markets • Methods used to invest in foreign stocks • Direct purchases involves directly buying stock of foreign companies listed on the local stock exchanges • International mutual funds are portfolios of international stocks created and managed by various financial institutions • World equity benchmark shares represent indexes that reflect composites of stocks for particular countries that can be purchased or sold

25. Advantages and Disadvantages of Going Public Advantages: • Greater liquidity • Better access to capital Disadvantages: • Equity holders become more widely dispersed resulting in loss of control • Must satisfy requirements of public companies like securities commission and stock exchange regulations

26. Secondary Stock Offerings • A secondary stock offering is: • A new stock offering by a firm whose stock is already publicly traded • Undertaken to raise more equity to expand operations • Existing shareholders often have the preemptive right to purchase newly-issued stock (Rights issue)

27. Raising Additional Capital: The Seasoned Equity Offering • A firm’s need for outside capital rarely ends at the IPO as profitable growth opportunities occur throughout the life of the firm. • Seasoned Equity Offering (SEO): When firms return to the equity markets and offer new shares for sale: • General cash offer: The firm offers new shares to investors at large. 2. Rights offer: The firm offers the new shares only to existing shareholders. Each shareholder is issued rights to buy a specified number of new shares from the firm at a specified price within a specified time, after which the rights are said to expire.

28. Rights Issue • A rights issue is an issue of rights to buy additional securities in a company made to the company's existing security holders. • It is a way to raise capital. • With the issued rights, existing security-holders have the privilege to buy a specified number of new securities from the company at a specified price within a specified time. • Rights Issue basis –rights shares are offered in a proportion to the existing shares held by a shareholder. Eg. Rights issue on the basis of 1 shares for every 2 shares held (1:2) For a shareholder who holds 10,000 shares in the company, under the RI he will receive 5,000 rights issue shares.

29. Rights Issue • Calculating theoretical ex-rights price • TER price is market price that a stock will theoretically have following a new rights issue.  • Eg. ABC Berhad undertakes a rights issue on the basis of 2 rights shares for every 5 shares held, an an issue price of RM1.30. The market price of the company’s shares is RM1.60. • Calculation: 2 rights shares @ RM1.30 (2x1.30) RM2.60 5 existing shares @ RM1.60 (5x1.60) RM8.00 --- ----------- 7 RM10.60 === ÷7 ----------- TER price RM1.51 =======

30. Dilution of Percentage Ownership • Dilution of percentage of ownership occurs when a shareholder does not take up his entitlements under company’s share issue. • Illustration: Global plc, a company listed on the stock exchange, currently has 10,000,000 share outstanding. John hold 1,000,000 shares in Global. Thus, Mark holds 10% shareholdings in Global. Global undertakes a rights issue of 5,000,000 shares on the basis of 1 share for every 2 shares held. Hence, Global’soustanding shares will increase to 15,000,000 shares. If Mark takes up his rights entitlement, his shareholdings will increase to 1,500,000 shares, but his percentage shareholding will be maintained at 10%. However, if Mark does not take up his rights entitlement, his shareholding will remain 1,000,000. However, his percentage shareholdings will decrease to 6.67% (1,000,000/15,000,000).