Deck 15: How Corporations Raise Venture Capital and Issue Securities

Question 1

When a public company makes a general cash offer of debt or equity, it essentially follows the same procedure used when it first went public.

Answer 1

True

Question 2

Some successful corporations will provide venture capital to new firms with innovative ideas.

Answer 2

True

Question 3

Issue costs for debt are considerably lower than issue costs for equity securities.

Answer 3

True

Question 4

The evidence indicates that industrial stock prices in the U.S. decrease by approximately 3%, on average, when new equity issues are announced.

Question 5

Shelf registration is used more frequently for equity financing than for debt financing.

Question 6

The SEC requires the sale of a private placement to be limited to a small number of knowledgeable investors.

Question 7

The advantage of the bookbuilding method is that it allows underwriters to give preference to those investors whose bids are most helpful in setting the issue price and to offer them a reward in the shape of underpricing.

Question 8

A consequence of the Sarbanes-Oxley Act has been a decreased reporting burden on small public companies and a decrease in the number of companies reverting to private ownership.

Question 9

When securities are issued under a firm commitment, the underwriter bears the risk of low sales.

Question 10

Firms are attracted to the private placement of debt because of the lower average interest rates.

Question 11

An average-sized firm should expect the underwriting and administrative costs of going public to be around 7% to 8% of the IPO proceeds.

Question 12

In a rights offering, the shares are priced at a substantial discount to current market value, which ensures that the shareholders will either exercise the rights themselves or sell them to other investors.

Question 13

The SEC reviews the registration statement and determines whether or not an investment in the firm is advisable.

Question 14

Like a general cash offering, a rights issue is an offer to buy shares made to existing and potential shareholders.

Question 15

Underwriters usually play a triple role-first providing the company with procedural and financial advice, then buying the stock, and finally reselling it to the public.

Question 16

The bookbuilding method used by almost all IPOs in the United States is like an auction, since potential buyers indicate how many shares they are prepared to buy at given prices.

Question 17

Shelf registration is a procedure that allows firms to file several registration statements for one issue of the security.

Question 18

In many countries it is common for businesses to remain privately owned.

Question 19

Equity capital in young businesses is known as venture capital and it is provided by venture capital firms, wealthy individuals, and investment institutions such as pension funds.

Question 20

Venture capitalists generally provide sufficient up-front funding in one lump sum to take a new firm to the point where it can go public.

Question 21

One advantage to private placements is the low cost.

Question 22

When underwriters are unsure of the demand for a new offering, they:

A) reduce their spread.
B) undertake the issue on a firm commitment basis.
C) undertake the issue on a best efforts basis.
D)provide shelf registration for the issue.

Question 23

Privately placed securities may be difficult to resell.

Question 24

IPOs are generally overpriced in order to raise large amounts of cash.

Question 25

A secondary offering IPO occurs when:

A) new shares are sold to provide the company with additional funds.
B) the second public issue of equity becomes available.
C) the company's founders or venture capitalists market a portion of their shares.
D)not all of the shares in a primary IPO were sold.

Question 26

When underwriters issue securities on a best efforts basis, they:

A) sell as much of the stock as possible, but with no guarantee.
B) submit a bid for purchase, which the issuer compares to other bids.
C) buy the entire issue from the firm.
D)guarantee that the issuer will be charged the minimum spread.

Question 27

An investor exercises the right to buy one additional share at $20 for every five shares held. How much should each share be worth after the rights issue if they previously sold for $50 each?

A) $35.00
B) $41.67
C) $45.00
D)$46.00

Question 28

A major purpose of the prospectus is to:

A) inform investors of the security's rate of return.
B) advise investors of the security's potential risks.
C) distribute stock warrants to prospective investors.
D)list the security's dividend payment dates.

Question 29

Private placement contracts may be custom tailored for firms with special needs or unique opportunities.

Question 30

Typical firms that engage in private placements usually incur the highest costs when issuing public securities.

Question 31

The winner's curse theory assumes that the informed investor receives the majority of the underpriced IPOs.

Question 32

Crowdfunding is primarily used as a means for a publicly-traded company to raise additional capital.

Question 33

A firm's first offering of stock to the general public is known as:

A) first-stage financing.
B) an IPO.
C) a general cash offer.
D)a seasoned offering.

Question 34

If an underwriter charges the public $40 per share for a new issue after having promised the issuer $38 per share, the spread per share is:

A) $1.
B) $2.
C) $38.
D)$40.

Question 35

Studies have shown that, on average, new security issues are:

A) subject to flotation costs of approximately 32%.
B) overpriced by the amount of the spread.
C) underpriced.
D)overpriced to reward venture capitalists.

Question 36

Money that is offered to finance a new business is known as:

A) a general cash offer.
B) venture capital.
C) a private placement.
D)a rights issue.

Question 37

The most important function of an underwriter is to:

A) assess the firm's capital needs.
B) approve the prospectus before distribution to the public.
C) provide private placement of the firm's debt.
D)buy the securities issue from the firm and resell the securities to the public.

Question 38

A prospectus certificate indicates equity ownership in a firm.

Question 39

A general cash offer is necessary when issuing a private placement.

Question 40

A rights issue is one in which a public company offers shares only to existing shareholders in order to raise additional cash.

Question 41

Who bears the bulk of the cost of underpricing an IPO?

A) The underwriters
B) The investors who purchase IPO shares
C) All of the after-IPO shareholders
D)The pre-IPO shareholders

Question 42

Companies offering smaller security issues may prefer to issue them through a:

A) private placement because lower rates of return can be offered.
B) private placement because it is cheaper than a public issue.
C) public issue because it is cheaper than a private placement.
D)public issue because more exposure will be achieved.

Question 43

Which one of the following statements is incorrect concerning private placements?

A) Terms of the financing can be custom-tailored.
B) The securities are not made available to the public.
C) The securities are often less marketable.
D)Only a small amount of corporate debt is financed in this manner.

Question 44

Private placement of debt securities occurs more frequently in:

A) smaller-sized firms.
B) larger-sized firms.
C) firms that are using venture capitalists.
D)combination with convertible bonds.

Question 45

What would you expect to be the market price of stock after a sold-out rights issue, if each existing shareholder purchases one new share at $60 for each three that he or she currently holds, and the current share price is $100?

A) $75
B) $80
C) $85
D)$90

Question 46

An IPO was offered to the public at $18 a share with the issuing firm receiving $16.50 of that amount. The issuer incurred $750,000 in legal and administrative costs. At the end of the first trading day, the stock was priced at $22.40 a share. What was the total dollar cost, including both direct and indirect costs, of issuing the securities if 225,000 shares were offered?

A) $1,687,500
B) $1,540,000
C) $2,077,500
D)$1,087,500

Question 47

The consent of a corporation's stockholders must be received prior to any:

A) issue of new securities.
B) selection of an underwriter.
C) increase in authorized capital.
D)private placement of securities.

Question 48

Which one of these terms applies to a public company offering new shares to the general public?

A) Rights offer
B) Initial public offering
C) Venture capital offer
D)General cash offer

Question 49

Which one of the following would not be included among the benefits of shelf registration?

A) Reduction of lead time for security issuance
B) No additional registration necessary for 5 years
C) Issuer can take advantage of favorable conditions
D)Issuer can search for best underwriting terms

Question 50

The enactment of shelf registration is likely to have increased:

A) the cost of issuing new securities.
B) the interests of venture capitalists.
C) competition among underwriters.
D)the underpricing of securities.

Question 51

A firm has just issued $250 million of equity which caused its stock price to drop by 3%. Calculate the loss in value of the firm's equity given that its market value of equity was $1 billion before the new issue.

A) $7.5 million
B) $30.0 million
C) $33.3 million
D)$37.5 million

Question 52

If a new stock offering were overpriced and could be sold, then the:

A) existing shareholders would benefit.
B) new investors would gain at the expense of the existing shareholders.
C) firm could avoid the underwriting spread.
D)firm could avoid the SEC filing.

Question 53

The most likely reason that underpricing of new issues occurs more frequently than overpricing is that:

A) underwriters want to reduce the risk of a firm commitment.
B) the demand for a new issue is typically too high.
C) underwriters earn low rates of return.
D)issuing firms demand that equity be underpriced.

Question 54

What was the market price of a share of stock before a rights issue, if one share of new stock could be purchased at $100 for every four shares that were previously owned? The stock price after the successful rights issue was $200.

A) $220
B) $225
C) $240
D)$250

Question 55

The primary reason for an underwriters' syndication is to:

A) monitor the actions of the different underwriters.
B) reduce the risk of selling a large issue.
C) increase the size of the spread.
D)avoid the scrutiny of the Securities and Exchange Commission.

Question 56

Shelf registration was enacted to allow:

A) the Department of Justice to prosecute those guilty of insider trading.
B) the prospectus to be distributed after the sale of securities begins.
C) underwriters to join together in syndication.
D)a joint filing for multiple issues of a single security.

Question 57

Issue costs for equity are higher than those for debt for all of the following reasons except:

A) equity issues have higher administrative costs.
B) underwriting stock is riskier than underwriting bonds.
C) equity issues involve significantly more time to sell.
D)equity issues have no economies of scale.

Question 58

When securities are issued under a rights issue:

A) existing shareholders have the opportunity to expand their holdings.
B) shares are offered to the public at a discount.
C) the existing shares will increase in price.
D)current shareholders have the right to resell their stock to the issuer.

Question 59

If a corporation's management, with its superior knowledge of proposed investments, considers a security issue to be underpriced, it may react by:

A) forgoing the security issuance and investment.
B) lowering the price of the existing shares to equal the new shares.
C) increasing the number of shares to be sold.
D)adopting shelf registration, which automatically raises the issue price.

Question 60

How much will a firm receive in net funding from a firm commitment underwriting of 250,000 shares priced to the public at $40 if a 10% underwriting spread has been added to the price paid by the underwriter? Additionally, the firm pays $600,000 in legal fees.

A) $8,400,000
B) $8,460,025
C) $8,490,909
D)$8,545,455

Question 61

One of the primary reasons for disbursing venture capital funds in installments is to:

A) avoid tax liability.
B) identify and cut losses early.
C) increase the importance of the venture capitalist.
D)take advantage of the time value of money.

Question 62

Assume the issuer incurs $1 million in other expenses to sell 3 million shares at $40 each to an underwriter and the underwriter sells the shares at $43 each. By the end of the first day's trading, the issuing company's stock price had risen to $70. What is the cost of underpricing?

A) $81 million
B) $91 million
C) $101 million
D)$111 million

Question 63

Stock underwriters are:

A) investors seeking low prices.
B) regulatory agencies that evaluate equity offerings.
C) the firm's founders who guarantee a stock's performance.
D)investment banking firms that coordinate equity offerings.

Question 64

Second-stage financing occurs:

A) prior to the initial public offering.
B) when company founders sell a portion of their shares.
C) after the best efforts of the underwriters.
D)when the IPO does not raise sufficient cash.

Question 65

What is the market value placed on a firm in which an entrepreneur invests $1 million and a venture capitalist invests $3 million in first-stage financing for a 50% interest in the firm?

A) $4 million
B) $6 million
C) $7 million
D)$8 million

Question 66

One strategy that appears to be used by certain underwriters to reduce the risk of marketing a stock is to:

A) offer a firm commitment on the issue.
B) set the initial stock price below its true value.
C) sell the securities in foreign countries.
D)offer price rebates on the stock purchases.

Question 67

An underwriter issues a firm commitment to sell 1 million shares at $20 each, including a $2 spread. How much does the issuing firm receive if only 500,000 shares are sold?

A) $9 million
B) $10 million
C) $18 million
D)$20 million

Question 68

In return for providing funds, venture capitalists generally require:

A) collateral equal in value to the funds provided.
B) first right to all of the firm's assets.
C) an equity position in the firm.
D)ownership of the entire firm.

Question 69

Underwriters are more likely to oversell new stock issues during:

A) a bear market or market crash.
B) a stable market period.
C) a bull market or market boom.
D)an extremely volatile market period.

Question 70

The direct expense of a stock issue includes the:

A) cost of underpricing the stock.
B) underwriting spread and other expenses.
C) underwriting spread, other expenses, and cost of underpricing.
D)underwriting spread.

Question 71

Prospective investors are advised of a stock's potential risks by the:

A) underwriter.
B) underpricing laws.
C) prospectus.
D)initial public offering.

Question 72

Which one of the following is correct for stock issued under a firm commitment where the underwriter is to receive a spread of 8%?

A) The underwriter's profits are guaranteed to be 8%.
B) The underwriter must sell at least 92% of the shares.
C) The underwriter receives 8% of all shares.
D)The underwriter may suffer a loss on the issue.

Question 73

When underwriters offer a firm commitment on a stock issue, they:

A) employ their best efforts in selling the stock.
B) guarantee the net proceeds to the issuing firm.
C) agree to purchase the venture capitalists' shares.
D)assure purchasers that the stock will appreciate.

Question 74

Blue-sky laws exist in order to:

A) protect stock underwriters from fraudulent firms.
B) restrict the amount of profit from IPOs.
C) control the amount of stock owned by one investor.
D)protect investors from deceptive firms.

Question 75

Which one of the following is correct if an underwriter is selling stock to the public at $40 per share, the underwriter receives a $3 per share spread, 2 million shares are sold, and the issuing firm receives $111 million from the underwriter?

A) The underwriter's spread was greater than $3.
B) The issue appreciated in price immediately.
C) The issue included 3 million shares.
D)The stock was issued on a best efforts basis.

Question 76

What percentage of direct expense is required to market stock if the issuer incurs $1 million in other expenses to sell 3 million shares at $40 each to an underwriter and the underwriter sells the shares at $43 each?

A) 6.98%
B) 7.19%
C) 7.75%
D)8.33%

Question 77

Which one of the following is least likely to explain why entrepreneurs contribute their personal funds to start-up projects? Their contribution:

A) acts as a signal to venture capitalists.
B) repays debt held by the venture capitalist.
C) retains a portion of the firm's equity.
D)provides incentive to expend effort.

Question 78

The "winner's curse" is a reminder that:

A) successful bidders may often overpay for an object.
B) underwriters charge excessive fees.
C) stocks are much riskier than bonds.
D)underpricing an issue is a cost to existing owners.

Question 79

The Securities and Exchange Commission will not permit securities to be sold:

A) if they have been overpriced.
B) prior to approval of the registration statement.
C) unless the issuer guarantees their value.
D)until a shelf registration exists.

Question 80

Assume the issuer incurs $1 million in other expenses to sell 3 million shares at $40 each to an underwriter and the underwriter sells the shares at $43 each. By the end of the first day's trading, the issuing company's stock price had risen to $70. What is the total cost of issuing the securities?

A) $81 million
B) $91 million
C) $101 million
D)$111 million