FIN 301 Chapter 6

What is venture capital financing?

Equity investments by investors in private companies

What are the expected returns on venture capital investments?

20%-50% return. The earlier the stage the investor gets in, the higher the risk and return

Who are the four main players in venture capital?

Entrepreneurs, investors, investment bankers, and venture capitalists

What are the four parts of funding venture capital?

Seed/tartup funding
First Round: A round
Intermediate/Second Round: B Round
Later Stage Funding: C-Round

What is seed/startup funding?

-Earliest stage, typically no operating history
-"Angels"
-Most Risky
-Crowd Funding
-Investment is based on a business plan, the management group backgrounds along with the market and financial projections

What are Angels?

-Private investor providing initial funding for a new company

What is crowd funding?

The collective effort of individuals who network and pool their money to support business efforts

What is First Round Funding: A Round

Typically funding that accommodates growth. Company may have finished R&D. Funding is often in the form of convertible bond

What is Intermediate/Second Round Funding: B Round

Maturing company where a future leveraged buyout, merger, or acquisition and/or initial public offering is a viable option

What is Later Stage Funding: C Round

Mature company where a funds are needed to support major expansion or new product development. Company is profitable or breakeven.

What is an equity loan?

Offer of an ownership position to induce the loan or can be a note that has the option to convert from debt to equity

What is Mezzanine funding?

Company's progress makes positioning for an initial public offering available. Venture funds are used to support the IPO.

What are the primary roles/goals of the SEC?

SEC as a regulator
1. Protect investors
2. Information disclosure
3. Operational and pricing efficiency of securities markets
4. Fair and orderly markets

What does the SEC oversee?

Issuers, investment firms, investors, markets

Procedural Elements of the SEC

Rules and regulations
Enforcement Action
Provide for full and fair disclosure of information (quarterly and annual reports)

What is the 10-K report?

Annual report provided to investors

What are the responsibilities that the SEC deals with?

Rating Agency Actions
Ponzi Schemes
Financial Crisis (trying to fix it)
Insider Trading
-Objective: Create a level playing field
Rule 14e-3: Investors cannot act on non-public information

What is Rule 14e-3?

A rule stating that investors cannot act on non-public information

The type of information covered by insider trading laws is

Purposely not well defined

Legal Insider Trading

-Trading by corporate insiders who have non-public information
-Permissible (outside of certain dates) and a sign of insider confidence in the company
-Executives can buy/sell their own stock through prearranged "10b5-1" trading plans
-Some research shows

Illegal Insider Trading

-Trading with "material, non-public information"
-Do not have to be an insider
-Information is not well defined - gray areas
-Monitoring has become better

What are some examples of insider trading?

Nvidia- Heard they got a contract with x-box, went out and bought their stock before the release of the information
Martha Stewart- Got insider info from InClone systems to sell her stock because it was going to fail, made her money then lied to SEC about

Elliot Spitzer (former Attorney General of New York) as Market Regulator

Wall Street Analysts: Settlement with major brokerage firms for tainted research
Mutual Funds: Settlements with major investment companies who allowed favored customers to execute 'market timing' trades
Replaced by B. Lawsky

What is an IPO?

The initial sale of common stock to the public by a company

What is evident of the average first day return of an IPO?

Since it is only 15%, it means that it is under priced

What is the Winners Curse?

The average investor does not get the first day return because investment banks allocate hot IPOS to biggest investors

What is the long-term (3 year) adjusted performance of IPOs?

Negative

Why go public?

Capital to execute business plan
Liquidity for owners
Marketing and Branding Opportunity
Capital Market Access

Who has had the biggest IPO in recent years?

China

What are the roles of an investment banker in the primary securities markets?

Advising
Origination (Securities Act of 1933)
-Due diligence, registration statement, prospectus
Syndicate formation, underwriting, and price stabilization

Origination (securities act of 1933)

Due Diligence, registration statement, prospectus
S-1 Registration Statement.
-Company, management, products/services and markets, financial condition, ownership, use of capital

Anatomy of a Deal

1. Approval from Board of Directors
2. Due Diligence, advising, road shows, and feasibility studies
3. Registration with SEC, 20-day waiting period
a. Red Herring: Preliminary Prospectus
b. Tombstone: Issue Advertisements
c. Green Shoe: Underwriter option

Red Herring

Preliminary Prospectus

Tombstone

Issue Advertisements

Green Shoe

Underwriter option to sell 15% more shares

Negotiation offerings

Underwriting, best efforts and stand-by offerings

What is the role of the primary securities market?

Source of capital

What is the role of the secondary securities market?

Liquidity for primary market
Price determination

Dollar General Case Study

DG owned by two hedge funds from 2007-2009
Spread: Underwriting discount/proceeds before expenses
Green Shoe Option: If they do a good job selling it, they can sell more

IPO Hall of Fame

Internet IPO Frenzy: First day returns were often huge
Web Methods: End-of-first day price was up 508%
Venture Backed IPOS do better than non-venture backed IPOS
-VC firms invest in best businesses and create opportunities
Key Statistics: IPOS performance

What is a seasoned/secondary offering?

A sale of new common stock by an already public company

What is the average return of a secondary offering at the announcement?

-3%
Prices go down because investors take it as a signal that the shares are overpriced

How does Danny Devito value Shares?

The value of assets minus liabilities