Methods of flotation

NotesQuizPaper examObjective Test

Methods of obtaining a listing / flotation

Flotation means:

The process of making shares available to investors by obtaining a quotation on a stock exchange.

An unquoted company can obtain a listing on the stock market by means of:

  1. Offer for sale

  2. Prospectus issue

  3. Placing

  4. Introduction

Initial public offer

An Initial Public Offer (IPO) is a means of selling the shares of a company to the public at large.
 
When companies 'go public' for the first time, a large issue will probably take the form of an IPO. 

Subsequent issues are likely to be placings or rights issues.

An IPO entails the acquisition by an issuing house of a large block of shares of a company, with a view to offering them for sale to the public.

An issuing house is usually an investment bank (or sometimes a firm of stockbrokers).
 
It may acquire the shares either as a direct allotment from the company or by purchase from existing members. 

In either case, the issuing house publishes an invitation to the public to apply for shares, either at a fixed price or on a tender basis. 

The issuing house accepts responsibility to the public, and gives the support of its own reputation and standing to the issue.

In May 2012 Facebook launched one of the largest IPOs ever on the Nasdaq stock exchange at $38 per share, valuing the company at $104 billion. 

Many questioned whether this was overly ambitious, given that the company's previous year net income figure was $1 billion. 

As a result the share price tell in early trading and fell further over the next four months to a low of $17.55 per share in September 2012. Since then, the share price has recovered and on 21 June 2014 it was $64.50.

1) Offer for sale by tender

It is often very difficult to decide upon the price at which the shares should be offered to the general public. 

One way of trying to ensure that the issue price reflects the value of the shares as perceived by the market is to make an offer for sale by tender. 

A minimum price will be fixed and subscribers will be invited to tender for shares at prices equal to or above the minimum. 

The shares will be allotted at the highest price at which they will all be taken up

This is known as the striking price.

2) Prospectus issue

Issues where the issuing firm sells shares directly to the general public tend to be quite rare on many stock exchanges, and the issues that are made tend to be quite large. 

These issues are sometimes known as offers by prospectus. 

This type of issue is very risky, because of the lack of guarantees that all shares will be taken up.

3) A placing

A placing is an arrangement whereby the shares are not all offered to the public, but instead the sponsoring market maker arranges for most of the issue to be bought by a small number of investors, usually institutional investors such as pension funds and insurance companies.

The choice between an offer for sale and a placing

Is a company likely to prefer an offer tor sale of its shares, or a placing?

  • Placings are much cheaper. 

    Approaching institutional investors privately is a much cheaper way of obtaining finance, and thus placings are often used for smaller issues.

  • Placings are likely to be quicker.

  • Placings are likely to involve less disclosure of information.

  • However, most of the shares will be paced with a relatively small number of (institutional) shareholders, which means that most of the shares are unlikely to be available for trading after the flotation, and that institutional shareholders will have control of the company.

  • When a company first comes to the market in the UK) the maximum proportion of shares that can be placed is 75%, to ensure some shares are available to a wider public.

4) An introduction

By this method of obtaining a quotation, no shares are made available to the market, neither existing nor newly created shares; nevertheless, the stock market grants a quotation. 

This will only happen where shares in a large company are already widely held, so that a market can be seen to exist. 

A company might want an introduction to obtain greater marketability for the shares, a known share valuation for inheritance tax purposes and easier access in the future to additional capital.

Flotation has an impact on stakeholders as follows:

  • Customers and suppliers will have more faith in a company that has gone through the due diligence process and is governed by stock exchange rules

  • Employees can benefit from receiving shares in the company

  • Existing shareholders can exit at flotation.

  • Flotation is a very lengthy process and requires a lot of management time.

NotesQuizPaper examObjective Test