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Chapter 10
Stock Offerings and
Investor Monitoring
Financial Markets and Institutions, 7e, Jeff Madura
Copyright ©2006 by South-Western, a division of Thomson Learning. All rights reserved.
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Chapter Outline

Background on stock

Initial public offerings

Secondary stock offerings

Stock exchanges

Investor participation in the secondary market

Monitoring by investors

The corporate monitoring role

Globalization of stock markets
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Background on Stocks

A stock is a certificate representing partial ownership in a
corporation


Approval of amendments to the corporate charter

Adoption of bylaws

Voting is often accomplished by proxy

Management typically receives the majority of the
votes and can elect its own candidates as directors
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Background on Stocks (cont’d)

Preferred stock

Preferred stock represents an equity interest in a firm that
usually does not allow for significant voting rights

A cumulative provision on most preferred stock prevents
dividends from being paid on common stock until all preferred
dividends have been paid

Preferred stock is less risky because dividends on preferred
stock can be omitted

Preferred stock is a less desirable source of funds than bonds
because:
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Dividends are not tax deductible

Investors must be enticed to purchase the preferred stock since
dividends do not legally have to be paid

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Process of going public
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An investment banking firm normally serves as the lead
underwriter for the IPO

Developing a prospectus

The issuing firm develops a prospectus and files it with the SEC

The prospectus contains detailed information about the firm and
includes financial statements and a discussion of risks

The prospectus is intended to provide investors with the
information they need to decide whether to invest in the firm

Once approved by the SEC, the prospectus is sent to institutional
investors

Underwriters and managers meet with institutional investors in the
form of a “road show”
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Initial Public Offerings (cont’d)

Process of going public (cont’d)

Pricing
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The offer price is determined by the lead underwriter
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Prevents downward pressure

When the lockup period expires, the share price commonly
declines significantly
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Initial Public Offerings (cont’d)

Timing of IPOs

IPOs tend to occur more frequently during bullish stock
markets

Prices are typically higher

In the 2000–2001 period, many firms withdrew their IPO plans

Initial returns of IPOs

First-day return averaged about 20 percent over the last 30 years

In 1998, the mean one-day return for Internet stocks was 84
percent

Most IPO shares are offered to institutional investors

About 2 percent of IPO shares are offered as allotments to
brokerage firms
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Initial Public Offerings (cont’d)


Secondary Stock Offerings
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A secondary stock offering is:
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A new stock offering by a firm whose stock is already publicly
traded
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Undertaken to raise more equity to expand operations
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Usually facilitated by a securities firm

In the late 1990s, the volume of publicly placed stock
increased substantially

From 2000 to 2002, the volume of publicly placed stock
declined as a result of the weak economy

Existing shareholders often have the preemptive right to
purchase newly-issued stock
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Secondary Stock Offerings (cont’d)

Shelf-registration
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A corporation can fulfill SEC requirements up to two
years before issuing new securities
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Allows firms quick access to funds
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Potential purchasers must realize that information

where brokers obtain orders
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Listing requirements
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NYSE requirements include number of shares outstanding,
minimum level of earnings, cash flow, and revenue
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Minimum number of shares ensures adequate liquidity
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Exchanges charge a listing fee, which depends on the size of the
firm
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Stock Exchanges (cont’d)
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Over-the-counter market

Buy and sell orders are completed through a
telecommunications network

Nasdaq
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The Nasdaq is an electronic quotation system that
provides immediate price quotations

Firms must meet requirements on minimum assets, capital,
and number of shareholders
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Transaction costs as a percentage of the investment tend
to be higher on Nasdaq than on the NYSE