The Procedure of Selling Securities to the Public

Instructor: Dr. Douglas Hawks

Douglas has two master's degrees (MPA & MBA) and a PhD in Higher Education Administration.

When a business needs an influx of capital, they can take on debt or they can sell securities to the public. In this lesson, we'll talk about the steps businesses need to follow to sell securities to the public at the highest price possible.

Selling Securities to the Public

There are a number of reasons a company might want to sell securities to the public. If the firm needs to raise money for growth or investments, they can either take on debt by offering bonds, which the company will pay back to the bondholder at a later date, or sell an ownership stake, or stock, in their company. For some companies, these securities are the founder(s)' 'exit strategy.' They've grown their company and they are now ready to turn it over to new management to take it to a new level (and get paid for their work). Whatever the reason, the process of selling stock or bonds to the public is much more complex than just handing out certificates and collecting cash.

This process involves internal decision makers, usually multiple investment bankers, and regulators. An initial public offering, or IPO, is the process used for the first time a company starts selling stock to the public. It doesn't have to take a long time - it can be done in as little as a couple months, but some patience and media can help get investors excited, making the initial price go up. Whatever the reason and whatever the time frame management is pushing for, one of the toughest parts of the process is done: the decision to become a publicly-owned company has been made.

While that seems easy, there is much to consider about going public. The previous owners are selling control of some, or all, of their company, or they are taking on debt that they have to pay back. No matter how much they stock they sell or debt they incur, they are now required to have shareholder meetings and publish accurate and audited financial reports in accordance with SEC regulations. A successful IPO can be exciting and can result in a lot of money, but there are lot more regulations and laws involved when a company is publicly owned, versus when it is private.

The Role of the Underwriter(s)

The company doesn't sell the shares or bonds directly to the public. Instead, a group of investment banks called a syndicate go in together and commit to a certain number of shares. While they are competitors, they work together on these IPOs to spread the risk, and the reward.

When the management of the company has selected their lead underwriter - the primary investment bank that will lead the syndicate - they work together on building the syndicate and then file a registration with the Securities and Exchange Commission (SEC). All this time, while forms are being filed and financial statements are being prepared, the syndicates are calling their clients trying to get them excited for this IPO. The more excited potential investors get, the more demand there will be for shares and the higher the price will be.

When the final registration is filed with the SEC, a 20-day waiting period starts. This 20 days is crunch time for the syndicate and the issuer. That final registration states an estimated range of shares to be offered and an estimated price, although both of those things can change up until the day the shares are officially offered.

The First Day of Trading

After a process that usually ends up taking a few months, the first day of trading finally arrives. The issue price is finally announced. The issue price is the price the syndicate will be paying the company for their shares. The issue price times the total number of shares being sold is the amount of capital the issuer will receive. So, if your company is going public and you are issuing 10 million shares at $40 per share, your company will receive about $400 million today, minus the underwriting fee that will be charged by the lead underwriter of the syndicate. Up to this point (the opening day), those two numbers have been ranges.

Now it's the syndicate's turn to get paid. Each investment banker has their shares that they paid for and now they'll turn them loose on the open market. Individual investors, pension plans, mutual funds, and anyone else on the market starts putting in their bids for the security.

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