2Financial markets can be categorized as those dealing with newly issued financial claims, called the primary market; and those for exchanging financial claims previously issued, called the secondary market, or the market for seasoned securities.We will focus on the primary market for securities.
3Regulation of the issuance of securities: Underwriting activities are regulated by the Securities and Exchange Commission. The Securities Act of 1933 governs the issuance of securities. The act requires that a registration statement be filed with the SEC by the issuer of a security. The type of information contained in the registration statement is the nature of the business of the issuer, key provisions or features about the security, the nature of the investment risks associated with the security, and the background of management.
4The registration is actually divided into two parts The registration is actually divided into two parts. Part I is the prospectus. This part is typically distributed to the public as an offering of the securities. Part II contains supplemental information, which is not distributed to the public as part of the offering but is available from the SEC upon request.
5SHELF REGISTRATION RULE In 1982 the SEC approved Rule 415, which permits certain issuers to file a single registration document indicating that it intends to sell a certain amount of a certain class of securities at one or more times within the next 2 years
6Rule 415 is popularly referred to as the shelf registration rule because the securities can be viewed as sitting on a "shelf' and can be taken off that shelf and sold to the public without obtaining additional SEC approval.
7CONTINUED REPORTINGAny company that publicly offers a security in the United States becomes a reporting company and, as such, is subject to the Securities Exchange Act of This act specifies that a reporting company file with the SEC annual and periodic financial reports. The financial reports must be prepared according to generally accepted accounting principles (GAAP).
8PRIVATE PLACEMENT OF SECURITIES Public and private offerings of securities differ in terms of the regulatory requirements that must be satisfied by the issuer. The Securities Act of and the Securities Exchange Act of require that all securities offered to the general public must be registered with the SEC, unless given a specific exemption. The securities acts allow three exemptions from federal registration.
9First, intrastate offerings that is, securities sold only within a state are exempt. Second, a small-offering exemption (Regulation A) specifically applies if the offering is for $1 million or less, then the securities need not be registered. Finally, Section 4(2) of the Act exempts from registration "transactions by an issuer not involving any public offering." However, the 1933 Act does not provide specific guidelines to identify what is a private offering or placement.
10RULE 144 AIn the United States, one restriction imposed on buyers of privately placed securities is that they may not be resold for 2 years after acquisition. Thus, the market contains no liquidity for that time period. Buyers of privately placed securities must be compensated for the lack of liquidity, which raises the cost to the issuer of the securities.
11Variations in the Underwriting of Securities: we described the traditional syndication process; however, not all deals are underwritten using the traditional syndicate process. Variations include the "bought deal" for the underwriting of bonds, the auction process for both stocks and bonds, and a rights offering for common stock.
12Bought DealThe bought deal was introduced in the Eurobond market in 1981 when Credit Suisse First Boston purchased from General Motors Acceptance Corporations a $ 100 million issue without lining up an underwriting syndicate prior to the purchase.
13Auction ProcessAnother variation for the issuance of securities is the auction process.In this method, the issuer announces the terms of the issue, and interested parties submit bids for the entire issue.The auction form is mandated for certain securities of regulated public utilities and many municipal debt obligations
14An issuer is offering $500 million of a bond issue, and nine bidders submitted the following yields bids:BidderAmount($ million)BidA$ 1505.1%B1105.2C90D1005.3E755.4F25G805.5H705.6I855.7
15The next question is the yield that all of the 6 winning bidders will have pay for the amount of the issue allocated to them.One way in which a competitive bidding can occur is all bidders pay the highest winning yield bid(or,equivalently , the lowest winning price).In our example, all bidders would buy the amounts allocated to them at 5.4%. This type of auction is referred to as a single price auction or Dutch auction. Another way is for each bidders to pay whatever they bid. This type of auction is called a multiple price auction.
16Preemptive Rights Offering A corporation can issue new common stock directly to existing shareholders via a preemptive rights offering. A preemptive rights grants existing shareholders the rights to buy some proportion of the new shares issued at a price below market value.The price at which new shares can be purchased is called the subscription price.
17For the shares sold via preemptive rights offering, the underwriting services of an investment banker are not needed.However the issuing corporation may use the services of an investment banker for the distribution of common stock that is not subscribed to. A stand by underwriting arrangement will be used in such instances.This arrangement called for the underwriter to buy unsubscribed shares.
18World Capital Market Integration and Fund Raising Imlications An entity may seek funds outside its local capital market with the expectation of doing so at a lower cost than if its funds are raised in its local capital market. Whether lower costs are possible depends on the degree of integration of capital markets. At the two extremes, the world capital markets can be classified as either completely segmented or completely integrated.
19In the former case, investors in one country are not permitted to invest in the securities issued by an entity in another country. As a result, in a completely segmented market, the required return on securities of comparable risk traded in different capital markets throughout the world will be different even after adjusting for taxes and foreign exchange rates. An entity may be able to raise funds in the capital market of another country at a cost that is lower than doing so in its local capital market.
20Motivation For Raising Funds Outside Of the Domestic Market A corporation may seek to raise funds outside of its domestic market for four reasons. First, in some countries, large corporations seeking to raise a substantial amount of funds may have no other choice but to obtain financing in either the foreign market sector of another country or the Euromarket, because the fund-raising corporation's domestic market is not fully developed enough to be able to satisfy its demand for funds on globally competitive terms.
21The second reason is the opportunities for obtaining a reduced cost of funding (taking into consideration issuing costs) compared to that available in the domestic market. As explained in Chapter 17, in the case of debt the cost will reflect two factors: (1) the risk-free rate, which is accepted as the interest rate on a U.S. Treasury security with the same maturity or some other low-risk security (called the base rate); and (2) a spread to reflect the greater risks that investors perceive as being associated with the issue or issuer.
22The third reason to seek funds in foreign markets is a desire by corporate treasurers to diversify their source of funding in order to reduce reliance on domestic investors. In the case of equities, diversifying funding sources may encourage foreign investors who have different perspectives of the future performance of the corporation. Two additional advantages of raising foreign equity funds, from the perspective of U.S. corporations, include (1) some market observers believe that certain foreign investors are more loyal to corporations and look at long-term performance rather than short-term performance as do investors in the United States;6 and (2) diversifying the investor base reduces the dominance of U.S. institutional holdings and its impact on corporate governance.
23Finally, a corporation may issue a security denominated in a foreign currency as part of its overall foreign currency management. For example, consider a U.S. corporation that plans to build a factory in a foreign country where the construction costs will be denominated in the foreign currency. Also assume that the corporation plans to sell the output of the factory in the same foreign country.Therefore, the revenue will be denominated in the foreign currency.