Going Public in The Equity Capital Markets: Ecture

LECTURE 15 & 16
Going Public in the Equity Capital Markets
The Initial Public Offering

Gimede Gigante Università Commerciale Luigi Bocconi 2019
AGENDA
A) CAPITAL MARKETS – IPOS
B) GENERAL OUTLINE OF THE IPO PROCESS
C) CONCLUSIONS
Gimede Gigante Università Commerciale Luigi Bocconi

CAPITAL M ARKETS – IPOS
– Definition of what you call IPO

– Why should you list your shares?
– Where to list them?
– How (with which placement
technique) to place them to
investors?
– At what price?

 Definition
A company’s first equity issue
made available to the public
This issue occurs when a
privately held company decides
to go public
Also called an “unseasoned new
issue”
4

 Why should you list your shares?
1. Financial Reasons
 Collect new resources for financing new Investments
 Reduce the cost of Debt
 Expanding the opportunity for new leverage
2. Strategic Reasons
 Improvement of visibility (Marketing/Brand)
 Entering in new Markets
3. Corporate Governance Reasons

 Exit way for existing shareholders
 Increase the reputation of existing shareholders
 Attraction of good Managers 5

IPO Process: Offering Structure
I. Where to sell shares III. Which Shares
 Domestic Offering  Primary Offering

 International Offering  Secondary Offering
II. Which Market

IV. To Whom
 Single Listing
 Public Offering
 Dual Listing
 Private Offering

 How to place shares to the investors?
– Reference to the T.U.F.
»Borsa Italiana SPA

»Consob
»….(Banca d’Italia)

I. Issuing Structure
 Audience (Institutional Investors, Retail,
Consultants)
 Type of Offering (Public Sales Offer vs
Public Subscription Offer)
 Geographic Market (Local vs Global)

II. Set up of a syndicate of banks

Functions of the syndicate
– Distribution of securities
– Guarantee against undersubscription
– A good occasion to strengthen business
relationships with other intermediaries
– Certification of the issuer’s quality


Syndicate structure
– Global Coordinator/s
– Co-lead Manager/s
– Participant/Selling Bank/s


Syndicate structure
– Global Coordinator: controls the book of
orders, assist the firm during the
roadshow, is responsible for the invitation
of other banks in the syndicate
– Co-lead Manager: assists the lead
manager on specific part of the offer
(institutional tranche/international tranche)
– Participant/Selling Bank: they simply
provide selling and placement services

Type of syndicates
– Best effort (pure distribution; rare in

IPO’s)
– Partial Underwriting syndicate
– Full Underwriting syndicate


Type of syndicates
-Firm Commitment Underwriting:

The underwriter buys the entire issue, assuming full financial
responsibility for any unsold shares
-Best Efforts Underwriting:
The underwriter sells as much of the issue as possible, but can
return any unsold shares to the issuer without financial
responsibility

 Fees paid to the syndicate (for distribution and
underwriting
– Gross spread (Fixed fee, percentage of the total IPO’s

value: it is the difference between the offering price to
the public and the price paid by the syndicate)
– Gross spread can be split into: 1) 20% management
fee to Global Coordinator and co-lead managers);
20% underwriting fee (to the underwriting banks); 60%
selling fees (proportional to the amount sold)

 Fees paid to the syndicate (for distribution and
underwriting
– Greenshoe option (possibility to distribute further

shares if the original issue has been
oversubscribed)


What are the Roles? Typical Breakdown of Gross Spread
 Oversees the entire process, from Kick-off  Charged on total offering, including greenshoe
Global
Coordinator/s to closing. Co-ordinates the various
workstreams (documentation, marketing
etc.) Underwriting Selling
 Often (but not always) active as Commission Concession
bookrunner in the offering
Bookrunners  Actively involved in the preparation of the  Shared among
the banks pro-  Perf ormance
documentation and responsible for the
20% based on actual
entire marketing effort (analyst pres, rata to
allocations/designa
roadshow, management of the syndicate) underwriting tions received
commitments 60%
20%
 Control the order book, gather feedback  Or based on pre-
from investors, give recommendations on agreed level
final price, size of the offering, and
allocations
Co-Lead Management Commission
 Complement the research coverage and
Managers
overall marketing effort in the transaction
 Shared among the banks pro-rata to underwriting
commitments
Local  Generally one of the bookrunners with direct
Lead-Manager responsibilityfor the retail offering
Fee Precedents  Recent precedents have seen fees being structured with a
fixed component and a variable component (“incentive fee”)
 Historically, IPO fees since 2002 for offers above €100m
 In addition to the typical breakdown of the gross spread
have been in the range of 1.5% to 7% with an average of 3%
described above , it has become market practice in large
 Offer size is the main factor which influences the overall fee syndicates for the GCs to retain a fee out of the gross
in % terms; generally, larger the size and lower is the % fee spread (indicatively10%)

 At what price?
1. Valuation of the Company
 DCF (Enterprice Value vs Equity Value)
2. Multiples of Comparables
 EV/EBITDA
 EV/EBIT
 EV/SALES
3. Comparison
 Market Conditions and “room” for a
successful IPO
GENERAL OUTLINE OF THE IPO PROCESS:
IPO PROCESS TIMETABLE

PREPARATION
1. Planning the IPO (Select a Global Coordinator)
Pre-Launch
2. Register for an IPO
3. Print prospectus
Execution
4. Pre-Marketing
5. Setting the price and Allocation
18


1. Preparation
4 – 6 months before IPO launch: (PHASE 1)

Various workstreams, valuation methodologies, and benchmarks to adopt are laid
out by investment banks.
Key pillars of the investment case to be addressed are identified and reviewed for
any required adjustments.
2. Pre-launch
3 – 4 months before IPO launch: (PHASES 2&3)

Legal documents like the prospectus and the underwriting agreement are prepared.
Equity story is constructed. It is the investment case built for investors for the
company to be an attractive proposition.
This phase ends when watchdog institution grants permission to the company for the
listing.
19


3. Execution
1 – 2 months before the IPO launch: (PHASES 4&5)

>Pre-marketing
7 – 10 days before price range determination and announcement.
In addition to “pilot fishing”, investment banks set up a meeting with the company
management to make them more engaged in the upcoming offering.
>Setting the Price Range
It is usually the result of the combination of factors and of different views.
The issuer and selling shareholders will push for the highest achievable valuation while
investors will want discounts. However, investment banks will try to set the best price range
that will generate demand momentum and maximize valuation.
>Marketing and Bookbuilding
Over a 2-week period.
To reach the target shareholder base, the issuer and its advisors will conduct extensive
meetings with investors throughout several countries.
Books are opened and orders are started to be collected.
20


3. Execution (cont.)
>Pricing
The moment in which the final offer price is set.
It is crucial to the success of the IPO since only one number should be adopted
from the price range and the ideal pricing is at a reasonable discount to the
trading value of the company.
When pricing an offering, other variable have to be considered by the advisors.
>Allocation
This is the process of allocating orders to different investors after setting the
price.
Its objective is to create a base of stable shareholders that believe in stock, to
provide sufficient liquidity in the market, and to ensure positive aftermarket.
It typically involves a great deal of negotiations with the issuer.
Some allocation criteria that can be considered include price limit, order timing, 21
and track-record of previous IPOs.
Preparation (Phase 1). Planning the IPO
 The Company has to evaluate the Reasons for going

Public
 The Company has to identify the Global Coordinator (GC).
 GC is an investment firm that acts as an intermediary
between a company selling securities and the investing
public
 The GC is the principal player in the IPO
 Typically, the GC acts also as an underwriter that buys
the securities for less than the offering price and
accepts the risk of not being able to sell them
22

Pre-Launch (Phase 2). Register for an IPO
 The firm must prepare a registration

statement and file it with institutions (Borsa
Italiana and Consob in Italy)
 The registration statement discloses all
material information concerning the
corporation making a public offering
 The QMAT - Quotation Management Admission Test - can be filled in by the
Issuers that submit application for admission to listing of shares on MTA market.
 The QMAT enables Borsa Italiana, in the exercise of its powers with regard to
admission to listing, to analyse the Issuer's business model, to identify the
relevant stakeholders and to understand the competitive situation.
23

Pre-Launch (Phase 3). Print Prospectus
 The prospectus is a legal document

describing details of the issuing
corporation and the proposed offering to
potential investors
 Contains much of the information in the
registration statement
 The preliminary prospectus is sometimes
called a “red herring” 24

Execution (Phase 4). Pre-Marketing Activity
 Presentation of the IPO to institutional

investors around the world through Road
Shows:
The Road-Show allows firms to raise
interest in the company and thus the
price
Allows the firm and its underwriters to
gather information from potential
purchasers
25

Execution (Phase 5). Setting the Price and

Allocation
 How much to charge for giving away a
part of the firm is very important to the
issuers
 The securities are priced based on the
value of the company and expected
demand for the securities
At what Price to place the IPO? 26


Allocation
 At what price to place the IPO?
x issue price
Total offer proceeds = #shares
COMPANY
FUNDING DILUITION VALUATION
NEEDS ISSUES


Allocation
a.Fixed price offer (rare nowadays):
the bookrunner fixes the price and
proposes it to the market
– Risky for both the issuer and the
bookrunner (mispricing)


Allocation
b. Dutch Auction: Example Google IPOs
(assisted by Morgan Stanley and CSFB)
Under this method, the auctioneer tries to
find the optimal price for his stock or the
lowest price at which an issuing company
can accept to sell all available shares.


Allocation
b. Dutch Auction: Example Google IPOs (assisted
by Morgan Stanley and CSFB)
The auctioneer himself sets an extraordinarily high
price for the auction and lowers it as bidders
begin to bid for it. The auctioneer will start the
auction by quoting an abnormally high price.
Thereafter, he will lower the price gradually and
call again and again until all shares are spoken
for

Allocation
– On August 19, 2004, Google went public and came out with its initial public
offering (IPO).
– It turned out to be the 25th largest IPO in corporate history and the biggest
technology IPO till date.
– Before its release, the IPO had been the subject of several controversies
and the target of a lot of criticism.
– Just a day before it went public, Google revised and scaled down its
estimated per share price range from $108- $135 to $85-$95 per share.
– The company also reduced the number of shares it had planned to sell
from 25.7 million to 19.6 million.

Allocation
b. Dutch Auction: Example Google IPOs (assisted
by Morgan Stanley and CSFB)
The auction process for Google was divided into five stages:
1. Qualification (www.ipo.google.com)
2. Bidding (the bid had to specify the desired number of shares, a
share purchase price,)
3. Auction closing
4. Pricing
5. Allocation

Allocation
– On August 19, just a few hours of going public, Google‘s share climbed to
more than $100, an increase of almost 20% on the initial offer.
– A day later, the shares fetched nearly $108.31.
– The IPO managed to raise nearly $1.4 billion for Google, a remarkable feat,
considering the poor performance of other technology shares. Of the 1.4
billion earned, Google earned nearly 1.1 billion while its founders and the
initial investors earned the rest.
– Despite all the speculation, the Google IPO had performed extremely well.

Allocation
c. Bookbuilding: It’s an example of information
asymmetries between informed investors and
bookrunner/Uws. The revelation of price
signals by institutional investors allows the
Bookrunner to fairly price the offer


Allocation
c. Bookbuilding:
Two main phases:
– Premarketing: warm up of the investors,
test of the market sentiment for the offer,
set up of the indicative price range
Length: 1 week


Allocation
c. Bookbuilding:
Two main phases:
– Marketing: this phase is occupied by the organization of
the roadshow and 1-to-1 meetings, the preparation of the
investment case and the construction of the book of orders
– During the roadshow, the saleforce of the syndicate asks
investors to indicate the price(s) at which they are open to
purchase the shares
– Collection of orders start
– Length of the phase: 1 to 2 weeks

Allocation
c. Bookbuilding:
Construction of the book of orders:
– Orders can be placed directly to the BR
or to other members of the syndicate
– Orders are formally “non-binding”. The
unwritten rule is that they can be
withdrawn before the closing of the
bookbuilding
 An example of order book:

Bidder Quantity Price Amount (euros)
A 100
Strike bids
B 10,000,000
C 100 10.5
Limit order
D 400 10.48
300 10.49
Step bid
200 10.5


Allocation
c. Bookbuilding:
Construction of the book of orders:

– Different orders have different value for the
BR in terms of market price disclosure
– Only limit and step bids can give the BR a
perception of the investors’ appetite for the
shares
– This fair disclosure will be compensated
with a more favorable shares allocation

Allocation
c. Bookbuilding:
Closing of the bookbuilding
– After the bookbuilding is closed the BR sets the
offering price (or the maximum offering price)
– The BR confirms the offer size
– The BR proceeds with the allocation to the retail
public and to institutional investors.
– For institutionals, the allocation is completely
discretionary. Allocation is more favorable: 1) to
those who placed limit or step orders; 2) to larger
customers; 3) to those who placed the orders
directly to the BR; 4) repetitive bidders/loyal
customers; 5) buy and hold investors

Allocation
c. Bookbuilding:
Which factors influence IPO allocation?


Allocation
 The “underpricing puzzle”
– IP = issue price
– P1 = price at closing on the first day
– Absolute underpricing:
(P1 IP)
– UP 
IP
– Relative underpricing: Absolute
Underpricing (-) change of the relative
market index

Allocation
 What does explain the “underpricing puzzle”?
– In general the underpricing is explained by the existence
of information asymmetries among the different parties
involved in the offer
– Between informed and uninformed investors (Winners’
course hypothesis)
– Between the issuer (more informed) and investors (less
informed): signaling hypothesis, certification hypothesis
– Between the issuer (less informed) and intermediaries
– Between the investors (more informed) and the
intermediaries (less informed): the bookbuilding is an
application of this case

Allocation
 What does explain the “underpricing puzzle”?
– Ex-ante uncertainty
– Inefficiency of the secondary market (in
reality, it’s not the issue price to be wrong.
It’s the excessive euphoria of the
secondary market on the first day of
trading that determines the UP)


Allocation
Price stabilization
 After the closing of the primary market, shares start
to be traded on the secondary market
 Relevant upswings and downswings are not
appreciated by neither the BR and the issuer:
– Big upswings: money left on the table by the
issuer
– Big downswings: investors did a bad deal
(will they participate to the next offer
coordinated by the BR?)

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LECTURE 15 & 16

Going Public in the Equity Capital Markets

The Initial Public Offering

A) CAPITAL MARKETS – IPOS

B) GENERAL OUTLINE OF THE IPO PROCESS

Gimede Gigante Università Commerciale Luigi Bocconi

– Definition of what you call IPO

Gimede Gigante Università Commerciale Luigi Bocconi

Gimede Gigante Università Commerciale Luigi Bocconi

 Why should you list your shares?

3. Corporate Governance Reasons

Gimede Gigante Università Commerciale Luigi Bocconi

IPO Process: Offering Structure

I. Where to sell shares III. Which Shares

 Domestic Offering  Primary Offering

II. Which Market

Gimede Gigante Università Commerciale Luigi Bocconi

 How to place shares to the investors?

– Reference to the T.U.F.

»Borsa Italiana SPA

Gimede Gigante Università Commerciale Luigi Bocconi

 How to place shares to the investors?

Gimede Gigante Università Commerciale Luigi Bocconi

 How to place shares to the investors?

II. Set up of a syndicate of banks

Gimede Gigante Università Commerciale Luigi Bocconi

 How to place shares to the investors?

II. Set up of a syndicate of banks

Gimede Gigante Università Commerciale Luigi Bocconi

 How to place shares to the investors?

 How to place shares to the investors?

II. Set up of a syndicate of banks

– Best effort (pure distribution; rare in

Gimede Gigante Università Commerciale Luigi Bocconi

 How to place shares to the investors?

II. Set up of a syndicate of banks

-Firm Commitment Underwriting:

 How to place shares to the investors?

II. Set up of a syndicate of banks

– Gross spread (Fixed fee, percentage of the total IPO’s

 How to place shares to the investors?

II. Set up of a syndicate of banks

– Greenshoe option (possibility to distribute further

Gimede Gigante Università Commerciale Luigi Bocconi

 How to place shares to the investors?

Gimede Gigante Università Commerciale Luigi Bocconi

IPO PROCESS TIMETABLE

Gimede Gigante Università Commerciale Luigi Bocconi

IPO PROCESS TIMETABLE

4 – 6 months before IPO launch: (PHASE 1)

3 – 4 months before IPO launch: (PHASES 2&3)

Gimede Gigante Università Commerciale Luigi Bocconi

IPO PROCESS TIMETABLE

1 – 2 months before the IPO launch: (PHASES 4&5)

Gimede Gigante Università Commerciale Luigi Bocconi

IPO PROCESS TIMETABLE

Preparation (Phase 1). Planning the IPO

 The Company has to evaluate the Reasons for going

Gimede Gigante Università Commerciale Luigi Bocconi