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Todays agenda
1.
2.
3.
Underpricing puzzle
Valuation
Fees and placement of shares
RealNetworks example
5. Institutional investors
6. Corporate investor
Google Ventures
Angel Financing
Angel Investors
Angels tend to take bigger risks and accept lower returns if they
like the idea
Characteristics:
Andy Bechtolsheim
Larry Page and Sergey Brin
Their first visit with a faculty members friendmet Andy Bechtolsheim, one of
the founders of Sun Microsystems.
As Sergey tells it, We gave him a quick demo. He had to run off somewhere,
so he said, 'Instead of us discussing all the details, why don't I just write you a
check?' It was made out to Google Inc. and was for $100,000."
Venture Capital
No standard definition
It is generally agreed that:
1. The traditional VC era began in 1946
2. George Doriot founded American Research &
Development (AR&D), the first corporation specializing in
investing in illiquid securities of early stage issuers
Source: NVCA.org
Pro-cyclical pattern
2.
Mature companies:
Preferential dividend
Young companies:
Why?
1. Need for lots of capital in order to expand
2. Desire to stay in control
Create dual class shares!
Stages of Financing
1. Seed-Money Stage
Small amount of money to prove a concept or develop a product.
2. Start-Up
Funds are likely to pay for marketing and product refinement
3. First-Round Financing
Additional money to begin sales and manufacturing
4. Second-Round Financing
Funds earmarked for working capital for a firm that is currently selling its product
but still losing money
5. Third-Round Financing
Financing for a firm that is at least breaking even and contemplating expansion;
a.k.a. mezzanine financing
RealNetworks example
Steps in fund-raising:
1. 1993: Founder (Robert Glaser) invests
Post-financing valuation:
The terms of the financing implicitly give us a new valuation for the firm:
$0.67 per share
Now:
Value of founders stake (83.6%) = 13,713,439*$0.67 = $9.2M
Value of entire firm= 16,400,006*$0.67 = $11M
Exit strategy
Firm value of RealNetworks increased dramatically
over timebut
Very poor liquidity
No market for stock
Initial investors could not easily sell their stake
Mechanics of an IPO
Step 1: Select Underwriters and the Syndicate
1. Lead Underwriter
Primary investment banking firm managing IPO
2. Syndicate
Group of underwriters who jointly underwrite and distribute
a security issuance
(-): Split the underwriting fees
(+): Spread the risks among several underwriters
(+): Broaden the base of potential investors
Mechanics:
Primary and Secondary Offerings
1. Primary Offering
New shares available in a public offering
Raises new capital
2. Secondary Offering
Shares sold by existing shareholders in an
equity offering
Not raising new capital
SEC filings
1. Registration Statement
2. Preliminary Prospectus
Red Herring
3. Final Prospectus
Contains details of the
offering, including the
number of shares offered
and the offer price
Underwriting
Discounts and
Commissions
Proceeds to
Google
Proceeds to
Selling
Stockholders
$2.3839
$46,736,483
$82.6161
$1,168,368,039
$82.6161
$451,324,897
IPO valuation
SEC filings
(prospectus)
Current
market
conditions
Sometimes
already
trading
(www.share
spost.com)
1. Multiples
2. DCF
Buy the stock from RealNetworks for $11.625 per share and then resell the stock to
their customers for $12.50 per share
2. Firm commitment
Very typical: Underwriters guarantee to sell all shares
Its a risk for them. If not enough demand, they will have to buy the remaining shares
Lockup Agreements
Lockup agreements
Prohibit company insidersincluding employees, their friends and
family, and venture capitalistsfrom selling their shares for a set
period of time
The terms of lockup agreements may vary, but most prevent insiders from selling
their shares for 180 days.
Lockups also may limit the number of shares that can be sold over a designated
period of time.
Google example:
agreed with the underwriters that for a period of 180 days after the
date of this prospectus, we will not sell any shares of our common
stock, or securities convertible into shares without prior written
consent of the lead underwriters
Benefits of an IPO
1. Greater liquidity
Early investors get the ability to diversify
Venture capitalists, founders, etc.
Costs of an IPO
1. Transaction costs
A.
B.
2. Agency costs
3. Regulatory costs
Since SOX:
1.
2.
Transaction costs:
Direct cost of issuing
Typical spread is 7%
Transaction costs:
Twitter Example (only 3.25%)
Transaction costs
Indirect cost: Underpricing
Stock price usually jumps on first day of trading
Investment bankers underprice stocks by 15%-20%
on average over last 40 years!
Are they leaving money on the table?
Supply effects!
The firm and its bankers want a strong price reaction at IPO
Can they manipulate the stock price by restricting the supply of stock offered
to the market?
Answer: It depends!
Stock
Price
$12
$10
$10
Q1
Q0
Quantity
Q1
Q0
Quantity
SOX compliance, Reg FD, Global Settlement (less analyst coverage of small firms), etc.
140%
120%
100%
80%
60%
40%
20%
0%
IPO
Time
Market timing
Interesting pattern:
Less profitable firms outperform on first day
but underperform in the long-run. Why?
Recap
Life-cycle effects
1.
2.
3.
4.
Cons
Performance
1.
2.