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Raising Capital: Financing a Business. Topics. Basic Concepts Commercial Bank- Short Term Commercial Bank- Long Term Non Bank Financing Early Stage Financing Going Public Other. Basic Concepts. Primary vs. Secondary Market I. Bank vs. C. Bank Efficient Markets. Stocks and Bonds. - PowerPoint PPT Presentation
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04/22/23 Financing a Business 1
Raising Capital: Financing a Business
04/22/23 Financing a Business 2
Topics1. Basic Concepts2. Commercial Bank- Short Term3. Commercial Bank- Long Term4. Non Bank Financing5. Early Stage Financing6. Going Public7. Other
04/22/23 Financing a Business 3
1. Basic Concepts Primary vs. Secondary Market I. Bank vs. C. Bank Efficient Markets
04/22/23 Financing a Business 4
Investors
Financial Markets
Firms
Stocks and BondsMoney Bob Sue
Primary Market
Secondary Market
securities
money
04/22/23 Financing a Business 5
How to Create Value through Financing
1. Fool Investors Empirical evidence suggests that it is hard to fool investors
consistently.
2. Reduce Costs or Increase Subsidies Certain forms of financing have tax advantages or carry other
subsidies. Some ways of raising capital are cheaper than others.
3. Create a New Security Sometimes a firm can find a previously-unsatisfied clientele
and issue new securities at favorable prices. In the long-run, this value creation is relatively small,
however.
04/22/23 Financing a Business 6
2. Commercial Bank – Short Term Short term loans Compensation Collateral and protection Letter of credit (LC) Reverse repurchase agreement (REPO)
04/22/23 Financing a Business 7
Commercial Bank –Short Term Loans
Single payment loans Installment loans Discount loans Credit lines or bank facility Repayment on demand
04/22/23 Financing a Business 8
Commercial Bank –Compensation
Commitment fee (1/2 %) Compensating balances (10% in checking) Interest rate
04/22/23 Financing a Business 9
Commercial Bank –Collateral and Protection
Unsecured Collateralized (financial strength with
escape) Asset-based loans (value of the assets) Key executive insurance (payable to bank) Personal guarantees
04/22/23 Financing a Business 10
Commercial Bank –Letter of Credit (LC)
Guarantee by bank Importing and exporting
04/22/23 Financing a Business 11
Commercial Bank –Reverse Repurchase Agreement (REPO)
Sell T-Bill for $998 Agree to buy back the T-Bill for $1000 in 10
days
04/22/23 Financing a Business 12
3. Commercial Bank – Longer Term Loans
Term loans Periodic repayment or interest w/ balloon Collateral (fixed assets)
Lease financing Mortgage financing
04/22/23 Financing a Business 13
4. Non-Bank Short-Term Financing Account payable (implicit cost) Commercial finance companies (risky asset backed, factoring, leases) Factoring (credit cards) Commercial paper (rated, 3-months, unsecured IOU from prestigious firm,
$25,000 minimum) Direct or finance paper (GE Capital Corporation or GMAC) Indirect or dealer paper (through I. bank)
Small business administration Guarantees to repay up to 90% of loan Paper work! But new micro loans
Grants (i.e. Small Business Innovation Development Act) All federal agencies with R&D budgets must spend some on small tech
business
04/22/23 Financing a Business 14
Stages of Financing1. Seed-Money Stage:
Small amount of money to prove a concept or develop a product.2. Start-Up
Funds are likely to pay for marketing and product refinement.3. First-Round Financing
Additional money to begin sales and manufacturing.4. Second-Round Financing
Funds earmarked for working capital for a firm that is currently selling its product but still losing money.
5. Third-Round Financing Financing for a firm that is at least breaking even and contemplating
expansion; a.k.a. mezzanine financing.6. Fourth-Round Financing
Financing for a firm that is likely to go public within 6 months; a.k.a. bridge financing.
04/22/23 Financing a Business 15
5. Early Stage Financing Bootstrapping Early equity
04/22/23 Financing a Business 16
Bootstrapping (few resources) Entrepreneur resources (Gates and Allen in
a cheap apartment) Few employees (subcontract, temps,…) Lease, share, or barter OPM (i.e. suppliers)
04/22/23 Financing a Business 17
Early Equity Personal resources(savings, cards, parents, friends
and family)
Private investors Angels Private placement Venture capital Strategic alliances Small Business Investment Company (SBIC)
04/22/23 Financing a Business 18
Angels $20 – 750K Referral Former entrepreneurs, wealthy individuals Faster than VC’s Demand less control than VC’s Invest smaller amounts than VC’s
04/22/23 Financing a Business 19
Private Placement SEC Regulation A (under $1.5 mill. New, no audit, less
reporting) SEC Regulation D
Rule 504 ($1 mill./yr. To any number, sophisticated or not) Rule 505 ($5 mill./yr. To 35 accredited investors) Rule 506 (unlimited amount to accredited and relations, but no
general solicitation) Small Corporate Offering Registration, Form SCOR U-7
(question and answer)
04/22/23 Financing a Business 20
Venture Capital The limited partnership is the dominant form of
intermediation in this market. There are four types of suppliers of venture capital:
Old-line wealthy families. Private partnerships and corporations. Large industrial or financial corporations have established
venture-capital subsidiaries. Individuals, typically with incomes in excess of $100,000 and net
worth over $1,000,000. Often these “angels” have substantial business experience and are able to tolerate high risks.
Demand convertible preferred stock Demand control
04/22/23 Financing a Business 21
Strategic Alliances Companies invest in other companies for strategic
reasons (i.e., leverage technology). Fast deals, good valuations What if your product allows Adobe to increase the
price of its products by $5? What if your product allows Sprint’s fiber optic
cables to carry 10% more volume? Offer validation, introductions, promotions…
04/22/23 Financing a Business 22
Small Business Investment Company (SBIC) VC investment companies licensed by the
SBA.
04/22/23 Financing a Business 23
6. Going Public (IPO vs. SEO) Approval from board Pick investment bank and pre-underwriting conference Prepare and file registration statement with SEC
20-day waiting period, letter of comment, 20 more days Road show, built a book, preliminary prospectus or red herring,
syndicate registrar and transfer agent (but no selling) Pricing (file amendment), final prospectus, purchase, tombstone Resale After market, stabilization, and lockup Green shoe provision or over allotment option
04/22/23 Financing a Business 24
Pick Investment Bank and Pre-Underwriting Conference Debt, equity, or hybrid Competitive bid or negotiated offer Public or private Firm commitment or best efforts Cash offer or rights offer Shelf registration, SEC Rule 415 Exchange (NYSE, AMSE, Nasdaq)
04/22/23 Financing a Business 25
Issuing New Securities
04/22/23 Financing a Business 26
Allocation of Underwriting Spread
04/22/23 Financing a Business 27
Public vs Private Placement of Bonds
04/22/23 Financing a Business 28
Costs Spread (7%) Other direct expenses (filing fees, legal fees, printing,
mailing, registrar and transfer agent) Indirect expenses (management time, accountants time) Abnormal returns (seasoned issue price drop of around
3%) Underpricing (why are so many content to sell assets for
85% of value?) Green shoe option
04/22/23 Financing a Business 29
The Costs of Public Offerings Proceeds Direct Costs Underpricing(in millions) SEOs IPOs IPOs
2 - 9.99 13.28% 16.96% 16.36%10 - 19.99 8.72% 11.63% 9.65%20 - 39.99 6.93% 9.70% 12.48%40 - 59.99 5.87% 8.72% 13.65%60 - 79.99 5.18% 8.20% 11.31%80 - 99.99 4.73% 7.91% 8.91%
100 - 199.99 4.22% 7.06% 7.16%200 - 499.99 3.47% 6.53% 5.70%
500 and up 3.15% 5.72% 7.53%
04/22/23 Financing a Business 30
An Example of a Tombstone Advertisement
04/22/23 Financing a Business 31
Average First-Day Returns by Month for SEC-Registered IPOs: 1960-2005
04/22/23 Financing a Business 32
7. Other ADR and GDR Euromarket Swaps Convertibles Warrants Junk Bond Securitization