INITIAL PUBLIC OFFERINGS
Want to "go public?" Going public is all about an I.P.O., or Initial Public Offering, when the management skills and commitments of entrepreneurs who own companies meet the investing appetite and commitments of people who own money. An I.P.O. is really what stock exchanges are all about -- collecting capital from hundreds of thousands or millions of investors and making that capital available to growing companies.
The usual first step for the corporation that wants to do an I.P.O. is to hire an investment bank. The investment bank will act as the advisor and the distributor. The investment bank is also known as the Underwriter. Underwriting is the actual process of raising capital through selling debt (bonds) or equity (shares). The corporation doesn't need to hire an investment bank. It could choose to sell its new stock itself, going door to door even. But most companies use an investment bank because the process is complex and most companies -- especially new companies -- don't know the rules and don't have the time to go door to door.
The Underwriter and the company need to agree on the amount of capital needed by the corporation, the type of security to be issued, the price of the security, any special features of the security, and the cost to the firm to issue the securities. The investment bank will act as the middleman between the corporation and the general public.
When a company makes a public offering it must comply with a series of laws, including the Act of Full Disclosure of 1933, and file a "Registration Statement" with the Securities and Exchange Commission (S.E.C.). Contained in this registration statement will be a pretty complete description of the company, its financial structure, its ownership, and other pertinent information.
After the registration statement is filed by the investment bank on behalf of the issuing corporation, the S.E.C. requires a "Cooling Off Period." During the cooling-off period, the S.E.C. will investigate and make sure that "Full Disclosure" has been made. Assuming the issue is approved by the S.E.C., the stock will be offered to the general public. This date is the "Effective Date."
During the cooling-off period the investment bank will try to drum up interest in the issue. They do this by distributing a "Preliminary Prospectus," also known as a Red Herring. It has red printing across the top and in the margins. Once the effective date arrives, the security can be sold and money collected.
The typical (firm-commitment) I.P.O. raises $20-40 million, but offerings of as much as $100 million are not unusual either. That is not a huge sum, at least in comparison to large, established companies. But between 1997 and 2000, some 1,649 companies had their I.P.O.s or went public on the Nasdaq alone, and in the process raised $316.5 billion. Now that's getting to be real money.
To hear Professor Marvin Zonis, from the University of Chicago Graduate School of Business, talk about I.P.O.s, check out our One Minute MBA video clip. Just click the appropriate connection speed in the video box on the right column of this page.