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Chapter 12 Sourcing Equity Globally
Copyright © 2004 Pearson Addison-Wesley. All rights reserved Sourcing Equity Globally To implement the goal of gaining access to global capital markets a firm must begin by designing a strategy that will ultimately attract international investors. This would mean identifying and choosing alternative paths to access global markets. This would also require some restructuring of the firm, improving the quality and level of its disclosure, and making its accounting and reporting standards more transparent to potential foreign investors.
Copyright © 2004 Pearson Addison-Wesley. All rights reserved Designing a Strategy to Source Equity Globally Designing a capital sourcing strategy requires that management agree upon a long-run financial objective and then choose among the various alternative paths to get there. Often, this decision making process is aided by an early appointment of an investment bank as an official advisor to the firm.
Copyright © 2004 Pearson Addison-Wesley. All rights reserved Designing a Strategy to Source Equity Globally Most firms raise their initial capital in their own domestic market. However, most firms that have only raised capital in their domestic market are not well known enough to attract foreign investors. Incremental steps to bridge this gap include conducting an international bond offering and/or cross-listing equity shares on more highly liquid foreign stock exchanges.
Copyright © 2004 Pearson Addison-Wesley. All rights reserved Designing a Strategy to Source Equity Globally Depositary receipts (depositary shares) are negotiable certificates issued by a bank to represent the underlying shares of stock, which are held in trust at a foreign custodian bank. American depository receipts (ADRs) are certificates traded in the United States and denominated in US dollars. ADRs are sold, registered, and transferred in the US in the same manner as any share of stock with each ADR representing some multiple of the underlying foreign share (allowing for ADR pricing to resemble conventional US share pricing between $20 and $50 per share).
Copyright © 2004 Pearson Addison-Wesley. All rights reserved Exhibit 12.2 Mechanics of American Depositary Receipts (ADRs) American Depositary Receipts issued by a bank representing underlying shares held by a custodial bank Publicly traded firm outside the U.S. Receipts for shares listed on U.S. exchange Shares traded on local stock exchange Shares Receipts (ADRs) Arbitrage Activity Traded by U.S. investors
Copyright © 2004 Pearson Addison-Wesley. All rights reserved Designing a Strategy to Source Equity Globally ADRs can be exchanged for the underlying foreign shares, or vice versa, so arbitrage keeps foreign and US prices of any given share the same after adjusting for transfer costs. ADRs also convey certain technical advantages to US shareholders. While ADRs are quoted only in US dollars and traded only in the US, Global Registered Shares (GRSs) can be traded on equity exchanges around the globe in a variety of currencies.
Copyright © 2004 Pearson Addison-Wesley. All rights reserved Foreign Equity Listing and Issuance A firm must choose one or more stock markets on which to cross-list its shares and sell new equity. Just where to go depends mainly on the firm’s specific motives and the willingness of the host stock market to accept the firm.
Copyright © 2004 Pearson Addison-Wesley. All rights reserved Foreign Equity Listing and Issuance Cross-listing attempts to accomplish one or more of many objectives: –Improve the liquidity of its existing shares and support a liquid secondary market for new equity issues in foreign markets –Increase its share price by overcoming mis-pricing in a segmented and illiquid home capital market –Increase the firms visibility –Establish a secondary market for shares used to acquire other firms –Create a secondary market for shares that can be used to compensate local management and employees in foreign subsidiaries
Copyright © 2004 Pearson Addison-Wesley. All rights reserved Effect of Cross-Listing and Equity Issuance on Share Price Cross-listing may have a favorable impact on share price if the new market values the firm or its industry more than the home market does. It is well known that the combined impact of a new equity issue undertaken simultaneously with a cross- listing has a more favorable impact on stock price than cross-listing alone. Even US firms can benefit by issuing equity abroad as increased investor recognition and participation in the primary and secondary markets results.
Copyright © 2004 Pearson Addison-Wesley. All rights reserved Barriers to Cross-Listing and Selling Equity Abroad There are certainly barriers to cross-listing and/or selling equity abroad. The most serious of these includes the future commitment to providing full and transparent disclosure of operating results and balance sheets as well as a continuous program of investor relations. The US school of thought is that the worldwide trend toward requiring fuller, more transparent, and more standardized financial disclosure of operating results and balance sheet positions may have the desirable effect of lowering the cost of equity capital.
Copyright © 2004 Pearson Addison-Wesley. All rights reserved Alternative Instruments to Source Equity in Global Markets Alternative instruments to source equity in global markets include the following: –Sale of a directed public share issue to investors in a target market –Sale of a Euroequity public issue to investors in more than one market (foreign and domestic markets) –Private placements under SEC Rule 144A –Sale of shares to private equity funds –Sale of shares to a foreign firm as part of a strategic alliance
Copyright © 2004 Pearson Addison-Wesley. All rights reserved Alternative Instruments to Source Equity in Global Markets A directed public share issue is defined as one that is targeted at investors in a single country and underwritten in whole or in part by investment institutions from that country. The issue might or might not be denominated in the currency of the target market. The shares might or might not be cross-listed on a stock exchange in the target market.
Copyright © 2004 Pearson Addison-Wesley. All rights reserved Alternative Instruments to Source Equity in Global Markets The gradual integration of the world’s capital markets and increased international portfolio investment has spawned the emergence of a very viable Euroequity market. A firm can now issue equity underwritten and distributed in multiple foreign equity markets, sometimes simultaneously with distribution in the domestic market. The “Euro” market (a generic term for international securities issues originating and being sold anywhere in the world), was created by the same financial institutions that had previously created an infrastructure for the Euronote and Eurobond markets.
Copyright © 2004 Pearson Addison-Wesley. All rights reserved Alternative Instruments to Source Equity in Global Markets One type of directed issue with a long history as a source of both equity and debt is the private placement market. A private placement is the sale of a security to a small set of qualified institutional buyers. Since the securities are not registered for sale to the public, investors have typically followed a “buy and hold” policy.
Copyright © 2004 Pearson Addison-Wesley. All rights reserved Alternative Instruments to Source Equity in Global Markets Private equity funds are usually limited partnerships of institutional and wealthy individual investors that raise their capital in the most liquid capital markets. These investors then invest the private equity fund in mature, family-owned firms located in emerging markets. The investment objective is to help these firms to restructure and modernize in order to face increasing competition and the growth of new technologies.
Copyright © 2004 Pearson Addison-Wesley. All rights reserved Alternative Instruments to Source Equity in Global Markets Strategic alliances are normally formed by firms that expect to gain synergies from one or more of the following joint efforts: –Sharing the cost of developing technology –Gaining economies of scale or scope –Financial assistance (lowering of cost of capital through attractively priced debt or equity financing)
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