MOS 1023 Final Review Notes
Financing and Distribution
How New Businesses Start
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Most started by entrepreneur with vision for new product/business and passionate belief in concept's viability
o Seldom started in large corporations because they are efficient themselves at producing g/s and bringing
them to market and not incubating new businesses
Entrepreneur fleshed out ideas and makes them operational through informal discussions with people they
respect/trust (eg. Friends, early investors) about issues like tech, manufacturing, personnel, marketing, finance
o Discussions are low-budget affairs, often around kitchen tables, people have common bonds (eg.
Personal/fam ties)
Initial Funding of the firms
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Bootstrapping- process by which entrepreneurs raise seed money and obtain other resources necessary to start
business
Methods vary, initial seed money usually comes from entrepreneur or other founders
Before business, entrepreneurs work full time jobs that provide cash flow needed to launch and support family
Other cash: personal savings, sale of assets (eg. Cars, house), loan form family/friends, and loans obtained through
credit cards
o At this point, venture capitalists and banks normally not willing to provide funds
Money used to develop prototype of p/s and a business plan
o Deliverables = whatever it takes to satisfy investors that the new business concept can become a viable
business and deserves their financial support
Bootstrapping period lasts no more than 1-2 years, then begin to seek capital funding to grow business, this is a
critical time since this determines if it's a viable business concept that will be funded or disbanded bc lack of
investor interest
Venture Capitalists- individuals or firms that help new businesses get started and provide much of their earlystage financing
Individual Venture Capitalists (angel capitalists)- wealthy individuals who invest their own money in emerging
businesses at very early stages in small deals
Primary sources of funds for venture capital forms
o Financial and insurance firms 22.9%
o Private/public pension funds 20.5%
o Wealthy individuals and families 17.5%
o Corporate investments (excluding employee pensions) 16.7%
o Endowments and foundations 8.8%
The Venture Capital Industry
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Officially emerged with formation of direst venture capital limited partnerships, since then, flow of funds has
increased greatly (approx. $20 billion)
Today, industry is several thousand professionals at about 1000 firms, biggest concentrations are in
Cali/Massachusetts
An focus on hospitality, food, high-tech investments, etc.
Why Venture Capital Funding is Different
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Reasons why traditional sources of funding do not work for new/emerging businesses
1. High Degree of Risk Involved
o Most new businesses fail and it is difficult to identify which firms will be successful
o Most suppliers of capital are averse to undertaking high-risk investments and risk-averse behavior is
mandated in regulations that restrict their conduct
2. Types of Productive Assets
o Most commercial loans made to firms that have tangible assets (eg. Machinery, equipment, physical
inventory)
o Understand operations of traditional firms and inherent risks so they are comfortable lending to them
o New firms = primary assets are intangibles (eg. Patents, trade secrets)
3. Information Asymmetry Problems
o Entrepreneur knows more about their company's prospects than a lender does
o With highly-specialized technologies or new businesses, most investors do not have the expertise to
distinguish between competent and incompetent entrepreneurs, so reluctant to invest
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Therefore, many investors (eg. Financial and insurance firms, pension funds, endowment funds, uni foundations)
find it difficult to participate directly in venture capital market
Instead invest in capital funds that specialize in identifying attractive investments in new businesses, managing
those investments, and selling (exiting them) at the right time
The venture Capital Funding Cycle
Starting a New Business
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Entrepreneur has been in industry for several years and developed concept for business
The Business Plan
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Develop business plan that is well-thought out and executed, can receive help from attorney, consultant, etc.
Then send to venture capital forms and await response
First-Stage Financing
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Firm agrees to fund you sometimes in stages less than full amount you requested, may have to fund another
portion yourself
How Venture Capitalists Reduce Their Risks
Staged Funding
 Each stage gives venture capitalist an opportunity to reassess the management team and the firm's financial
performance
 If performance does not meet expectations, venture capitalists can ail out or cut losses
 If they have confidence in management, they can help make midcourse corrections so project can succeed
 Usually 3-7 funding stages and each stage passed is a vote of confidence for the project
 Investments give capitalists equity interest in a company, usually in form of preferred stock that is convertible to
common stock at their discretion
 Preferred stock = have most senior claim among stockholders if firm fails
 Conversion enables them to share in gains if business is successful
Personal Investment
 Capitalists often require entrepreneur to make substantial investment in business so ensure that they are
confident and committed
 Will be unlikely to allow you to pay yourself a large salary as manager of the business since they want financial
rewards to come from building a successful business and not your salary
Syndication
 It's common to syndicate seed- and early-stage venture capital investments
 Syndication = when originating VC sells a percentage of a deal to other VCs
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Reduces risk by:
o Increasing diversification of originating VC's investment portfolio, since others now own a portion of the
deal and original VC has less money invested
o Willingness of other VCs to share in investment provides independent corroboration that the investment is a
reasonable decision
In-Depth Knowledge
 Knowledge of industry and tech reduces risk
 High degree of specialization gives capitalist a comparative advantage over other investors or lenders that are
generalists
The Exit Strategy
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VCs are not long-term investors in the companies they back, only stay until it is a successful growing concern (3-7
years), then exit by selling equity position
VC agreement includes provisions identifying who has the authority to make critical decisions concerning the exit
process, inclosing
1. Timing (when to exit)
2. The method of exit
3. What price is acceptable
Exit strategies may be controversial because VC and other owners may not agree on these important details
Strategic Buyer
 Common way for VC to exit, sell firm's equity to a strategic buyer in the private market
 Strategic buy is looking to create value through synergies between the acquisition and the firm's existing
productive assets
Financial Buyer
 As become more common in recent years
 Sale occurs when a financial group (eg. Private equity (leveraged buyout) firm) buys the new firm with the
intention of holding it for a period of time (3-5 years) and then selling it for a higher price
 Difference between strategic and financial buyout = financial buyer does not expect to gain from operating or
marketing synergies since in a financial buyout, firm operates independently and buyer focuses on creating value
by improving operations as much as possible
 If firm is operating poorly, the buyer will likely bring in a new management team
Initial Public Offering
 Taking the company public through an IPO, least common method
 To obtain the highest price possible in the IPO, VC will typically not sell all of the shares they hold at the same
time of the IPO because that would send a bad signal to investors
 Once shares are publicly traded , they can sell remaining shares in public market
Venture Capitalists Provide More than Financing
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One of most important roles is to provide advice to entrepreneurs
Have industry knowledge and general knowledge about what it takes for a business to succeed, and use this to
provide counsel in business' early stages
usually at this point, managers and entrepreneur are long on technical skills but short on skills needed to
successfully manage growth
Extent of involvement in management depends on the experience and depth of the management team
VC investors may want a seat on board of directors or at least an agreement that gives them unrestricted access to
info about the firm's operations and financial performance, and the right to attend and observe any board
meeting
VCs will also insist on a mechanism giving them the authority to assume control of the firm if performance is poor,
and authority to install a new management team if necessary
The Cost of VC Funding
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Is very high, but high rates of return earned by VCs are not unreasonable
VCs bear a substantial amount of risk (for every 10 businesses backed by VCs, only 1-2 will be successful) so
winners have to cover the losses of the businesses that fail
Also spend a considerable amount of time monitoring the progresses of businesses the fund and intervening when
a management team needs help
If new business is successful, VCs will have made a substantial contribution to creating value for the other owners
Annual rate of return on investments that VCs earn vary by amount and by VC
On avg, VC fund may generate annual returns of 15-25% on the money that it invests
Overall, involves very high risk and is not for the faint of heart
Initial Public Offering
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If business is very successful, it will outgrow that ability of private sources of equity (eg. Friends, family, VCs) to
fund growth
Need more money for investments in plant and equipment, working capital, and R&D that these sources can
provide
Way to raise large sums of cash and to facilitate exit of VC = IPO of company's common stock
First-time stocks issues are given special name bc marketing and pricing of these issues are distinctly different
from those of seasoned offerings
Seasoned Public Offering- sale of securities (stock or bonds) by a firm that already has similar publicly traded
securities outstanding
Public offering- means that securities being sold are registered with the Securities and Exchange Commissions,
and thus, can legally be sold to the public at large
Only registered securities can be sold to the public
Advantages of going Public
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Amount of equity capital that can be raised in the public equity markets is typically larger than the amount that
can be raised through private sources, bc there are millions of investors who are easier to reach through public
markets
After a firm has completed an IPO, additional equity capital can be raised through follow-up seasoned public
offerings at a low cost
o Bc public markets are highly liquid and investors willing to pay more for liquid shares of public firms than
relatively illiquid shares of private firms
Enables entrepreneur to fund a growing business without giving up control
Allows there to be an active secondary market in which stockholders can actively buy and sell its shares
o Enables entrepreneur and other managers to more easily diversify their personal portfolio or to just sell
shares in order to enjoy some of the rewards of having built a successful business, while providing a way for
VCs to sell shares
Can make it easier for the firm to attract top management and to better motivate current managers
o Senior manager usually own equity in a firm and their compensation is tied to stock performance = align
management's behavior with maximizing stockholder value
Easier to offer incentives tied to stock performance because market info about value of share of stock is readily
available
o For private firms, market transactions are infrequent so value of equity must be estimated
Disadvantages of going public 上市弊端
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The high cost of the IPO itself, mostly due to fact that stock is not seasoned 本身高成本，股票不保值
流动性不为人所知，加之不确定
监管成本对小公司来说是巨大的
公开披露的信息会带来竞争劣势
Sec 鼓励管理者关注短期利润，而不是长期价值最大化
o Seasoned stocks are also traded in public secondary market, therefore has an established record, so
investors can observe how many shares trade on a regular basis (liquidity) and price
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Likely liquidity of a stock that is sold in an IPO s less well known and its value is uncertain so investors are
less comfortable buying a stock sold in an IPO and will not pay as high a price as for a similar seasoned stock
o Also have out-of-pocket costs such as legal fees, accounting expenses, printing costs, travel expenses, SEC
filing fees, consultant fees, taxes
Costs of complying with ongoing SEC disclosure requirements
o Eg. Must meet filing and other requirements, these regulatory costs can be significant for small firms, where
it is a large fraction of total equity
Transparency that results from compliance can be costly for some firms
o Firms provide public with detailed financial statements, detailed info on executive compensation, info about
strategic initiatives
o This can put them at a competitive disadvantage relative to private firms
SEC's requirement of quarterly earnings estimates and quarterly financial statements encourages managers to
focus on short-term profits rather than long-term value maximization
Investment Banking Services 投资银行服务
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To complete IPO, need services of IBs who are experts in bringing new securities to market
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IBs provide 3 main services:
o Origination- giving the firm financial advice and getting the issue ready to sell
o Underwriting- the risk-bearing part of investment banking
o Distribution- reselling securities to the public
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给公司提供财务建议，并准备好发行
承销—风险承担
分销-向公众转售证券
Larger firms that go to seasoned public markets on a regular basis have experienced financial staff and may
provide some/all origination services themselves
大公司经验丰富，可以提供服务
并非所有投资银行都是平等的
顶级公司愿意承销 ipo 是一种隐形的认可
Not all investment banks are equal, so identifying the IB firm that will manage IPO is important
Top firms do not want to tarnish reputation by making bad deals so willingness to underwrite a firm's IPO is an
implicit seal of approval
Securing services of firm with reputation for quality/honesty = improve market receptivity and help ensure
successful IPO
Origination 发放
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Investment banker helps the firm determine whether it is ready for an IPO = determining whether management
team, firm's historical financial performance and expected future performance are strong enough to merit serious
consideration by investors (how much money firm needs, how many shares must be sold0
确定管理团队，公司的历史业绩和预期未来业绩是否足够强大
If no, help firm find financial capital until answers are yes 如果不是，帮助找到，直到答案是肯定的
Once decide to sell stock must obtain number of approvals: 一旦决定出售股票必须获得批准数量
o Board of directors must approve all security sales 董事会批准
o Stockholder approval required of number of shares of stock is to be increased 金股东批准的数量将增加
Before selling to public, file a registration statement with the SEC 上市之前，提交一份注册声明
o Portion of this statement = preliminary prospectus- contains detailed information about the type of
business activities in which firm is engaged and its financial condition, a description of the management
team and their experience, competitive analysis of industry, a range within which the expects the initial
offering price to fall, the number of shares that the firm plans to sell, explanation of how proceeds from IPO
will be used, ad detailed discussion of the risks associated with the investment opportunity
While SEC is reviewing preliminary prospectus, firm may distribute copies of it to potential customers but no sales
can be made from it by law 会发布副本，但不能使用它来进行销售
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Info from prospects is designed to allow investors to make intelligent decisions about investing in a security issue
and the risks associated with it 是为了让投资者在安全和风险之间做出一个明智的决定
 SEC approval = not endorsement of wisdom/desirability of making a particular investment, simply means firm has
followed various rules and regulations required to issue securities, and info is complete and accurate 批准=合规，
不代表认可
Shelf registration
Underwriting
Firm-Commitment Underwriting
 Typical arrangement, investment banker guarantees the issuer a fixed amount of money from the stock sale
 IB actually buys stock from the firm at a fixed price and then resells it to the public
 Price Risk- underwriter bears risk that resale price might be lower than price underwriter pays
 Can happen if underwriter overestimates the value of a stock when determining how much to pay the firm or if
the value of the stock declines before it is resold to the public
 Underwriter's Spread- investment banker's compensation, the difference between the IB's purchase price and
the offer price, covers the IB's expenses, compensation for bearing risk, and profit
o Eg. Buy stock for $50/share and offer price is $53.50, gross US = $3.50 or 7% offer price
o If underwriters total expenses = $1.50, net profit = $2/share
o So underwriters spread for majority of IPO in US is 7%
Best-Effort Underwriting
 Here, investment banking firm makes no guarantee to sell the securities at a particular price and promises only to
make its best effort to sell as much of the issues as possible at a certain price
 Investment baker does not bear the price risk associated with underwriting the issue, and compensation is based
on the number of shares sold
 Most corporations issuing stock prefer firm-commitment arrangements to best-effort contracts
 95% of all underwritten offerings involve firm-commitment contracts, best effort offering arise only when
underwriters do not want to accept the risk of guaranteeing the offering price
Underwriting Syndicates
 Underwriters may combine to form a group called an underwriting syndicate to share the underwriting risk and
sell a new security issue more efficiently
 Each member is responsible for selling some of the securities being issued
 Participation in syndicate entitles each underwriter to receive a portion of the underwriting fee as well as a
proportionate allocation of the securities to sell to its own customers
 To broaden search for potential investors, they enlist other investment banking firms in a syndicate known as a
selling group which assists in the sale of the securities and receive commission for each sale and bear risk of
underwriting the issue
Determining the Offer Price 决定价格
 One of IB's most difficult tasks is to determine the highest price at which the bankers will be able to quickly sell all
of shares being offered and that will result in stable secondary market for the shares
 When demining price, must consider the value of the firm's expected future cash flows 必须考虑未来现金流价
值
 Investment bankers will also consider the stock price implied by multiples of the total firm value to EBITDA or
stock price earnings per share for similar firms that are already public 考虑类似公司
 Then investment banker will conduct road show where management makes presentations about the firm and its
prospects to potential investors
 This generates interest in offering and helps IB determine the number of shares investors are likely to purchase at
different prices
Due Diligence Meeting 尽职调查的会议
 Before shares sold, representatives from the underwriting syndicate hold a due diligence meeting with
representatives of the issuer
 Purpose is to list, gather, and authenticate matters such as articles of incorporation, by-laws, patents, important
contracts, and corporate minutes
 it's have a final opportunity to ask management questions about the firm's financial integrity, intended use of the
proceeds, and any other issues deemed relevant to the pending security sale
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Meetings are held to protect IB's reputations and reduce the risk of investors' lawsuits in the event the investment
goes sour later on 保护 ib 声誉
Are serious, fully ensure that any material issues about the firm and offering and discovered and fully disclosed to
investors
Distribution
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Pricing Call- the underwriters and issuer determine the final offer price once the due diligence process is complete
Takes place after market has closed for the day 定价通知 发生在市场结束后的那天
Lead underwriter (aka book runner since they assemble book of orders for offering) makes its recommendations
concerning the appropriate price, and the firm's management decides whether the price is acceptable
Management makes ultimate pricing decision by accepting/rejecting IB's recommendation
If management finds it acceptable, issuer files an amendment to the registration statement with the SEC, which
contains the terms of the offering and the final prospects
The First Day of Trading
 Underwriter sells shares to investor when market opens next day
 Syndicates primary concern = sell securities as quickly as possible at offer price
 Speed of sale is important because it reflects market conditions at the end of the previous day (conditions can
change quickly)
 Successful offerings = most securities have been presold to investors prior to delivery, and whatever issues are not
presold will be sold out within a few hours
 If not sold within a few days, the underwriting syndicate disbands and remembers sell the securities at whatever
price they get
The Closing
 At closing of firm-commitment offering, issuing firm delivers the security certificates to the underwriter and the
underwriter delivers payment for them, net of the underwriting fee, to the issuer
 Usually takes place on the third business day after trading has started 开始后的第三个工作日
The Proceeds
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Firm plans to issue 2 million shares of common stock, gross underwriting spread = 7%, accepts $20/share offering
price proposed by the underwriter
$20/share - 7% = $18.60/share = issuer's expected net proceeds
Total proceeds from sale of stock= $20/share x 2 million = $40 million
These are shared between:
a. Firm (18.60/share x 2 million) = $37.2 million 公司
b. Underwriter $1.40/share x 2 million = $2.8 million 承销商拿到的
CHAPTER 12 Dividends, Stock Repurchases, and Payout Policy
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Stock repurchase programs commonly used to distribute excess cash to stockholders
Dividends also do this, since 2005 number of SR > number of D 回购大于 dividend
Any time value id distributed to a firm's stockholders, it reduces the value of stockholders' claims against the firm,
and the amount of capital invested in firm is reduced
unless firm raises additional equity, availability of capital for new investments is reduced, and the firm's financial
leverage is increased
Payout Policy- a firm's overall policy regarding distributions of value to stockholders 支付政策，分配给股东的价
值的总体政策
Dividend- something of value that is distributed to a firm's stockholders on a pro-rata basis, can involve
distribution of cash, assets, etc.
Pro-Rata- proportion of the percentage of the firm's shares that they own
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Eg. If firm has $1000 cash and $9000 assets, and no debt and there are 10 000 shares outstanding, value of
each is $1
Now if management distributes $1000 cash as dividend, each stockholder receives $0.10 and value of share
has declined because firm is now worth $9000 and there are still 10 000 shares
Each stockholder still has $1 of value for each share owned, but share represents only 90 cents of total and
other 10 cents is in the hands of the stockholder, who can spend/reinvest it
Types of Dividends
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Regular Cash Dividend- cash dividend that is paid on a regular basis (eg. Quarterly), are most common
Size of firm's regular cash dividend is typically set at level that management expects the company to be able to
maintain in the long run, since management doesn’t want to reduce the dividend in the event of major change in
the fortunes of the company
Management can afford to set regular cash dividend too low because they always have the option to pay an extra
dividend, along with regular dividends if earnings are higher than expected
o Eg company wants to distribute 40%, earns $2/share and regular cash dividend is 0.60/share, management
can pay extra 20% dividend at the end of the year to ensure they hit 40% payout target [(0.60 +0.20)/$2 =
0.4]
Special Dividend- one-time payment to stockholders, tends to be considerable larger then extra dividends,
normally used to distribute large amounts of cash (eg. Excess cash that has accumulated over time)
Liquidating Dividend- dividend that is paid out to stockholders when a firm is liquidated (assets are sold, and
proceeds from sale of assets is distributed to creditors, stockholders, and those who have claim of assets and firm
ceases to exist 清算股息， 当公司被清算时支付给股东的股息
o In US, proceeds used to pay wages owed to employees and any obligation to party that has claim on assets,
and only then pay liquidating dividend, stockholders are truly residual claimants to assets
Distributions of value can also take form of non-cash distributions such as discounts on company's products,
samples, etc. (not thought of as dividends bc value received is not in form of cash and does not reflect
proportional ownership of the firm 公司产品的折扣，样品等（不认为作为股息，因为收到的价值不是现金形
式，不反映公司的比例所有权）
The Dividend Payment Process 股息支付流程
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Sequence is relatively standard, process more easily defined for companies with publicly traded stock than for
private companies
The Board Vote 董事会投票
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There is vote by board of directors to pay dividend
As stockholder representatives, BOD must approve before any distribution occurs
The Public Announcement 公告
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Announces to public that they will pay dividend and date which this occurs is the declaration
(announcement)date
Includes amount of aloe that stockholders will receive for each share of stock they own, and other dates
associated w/dividend payment process
Price of stock changes when a dividend is announced because the announcement signals to market what man
agent think the future performance of the firm will be (high dividend = management optimistic about profits =
cash flows high and increase in stock price) 宣布股息是，价格会发生变化
If differs from what investors expected, they will adjust prices at which they are willing to buy/sell accordingly
The Ex-Dividend Date 除息日
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The first date on which the stock will trade without rights to the dividend 股票交易的第一日，不享有分红权
If buy shares before then, you will receive dividend = trading cum (with) dividend, and after is ex-dividend
Date can have significant implications of the taxes and transaction costs they pay
o Buy before, receive dividend on which taxes will have to be paid
Dividend can create difficulties for stockholder who wants to have a specific amount of money invested in a firm
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By returning value to stockholder, firm that pays dividend may reduce stockholder's investment below the
level preferred by the stockholder, making it necessary for stockholder to purchase additional shares and
incur associated brokerage fees and possibly other transaction costs
Price of shares changes on ex-dividend date, even if no new info is released about firm, drop reflects the
difference in the value of cash flows that stockholders are entitled to receive before and after the ex-dividend date
o Eg. Company announces $1/share dividend when stock is currently trading for $10/share, ex-dividend date
is tomorrow
o $10 price includes value of dividend since investor that purchases before date received dividend ($10
consists of $1 dividend + value of stock on ex-dividend date
o Inventor who buys stock tomorrow will receive only stock (which will be below $10 but price drop is not
necessarily $1) not dividend
Usually stock price drop is smaller than the full amount of the dividend because dividend will not be taxed
o If u knew u had to pay 15% tax on dividend, you would not pay 100% of the value of that dividend because
dividend as after-tax value of $0.85
o $10 price should include $0.85 for the dividend and $9.15 for other cash flows, so stock price drops to $9.15
on ex-dividend date
The Record Date 记录日
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Follows the ex-dividend date by two business date 除息日后的两个工作日
Date on which investor must be a stockholder of record (officially listed as stockholder) in order to receive the
dividend
Board specifics this date during vote, ex-dividend date is set afterward even though it precedes to allow time for
update stockholder list when people purchase stocks
I=f buy shares after ex-dividend date, exchange will ensure you are listed as stockholder of record for that
company as of record date 如果在除息日后购买，会在登记日成为公司的登记股东
The Payable Date 支付日期
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Final date of payment process, where stockholders actually receive the dividend
Usually a couple weeks after the record date 通常是在发行后的几周
The Dividend Payment Process at Private Companies 私营公司的股利支付过程
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Not as well defined as with public companies since shares are bought and sold less frequently, fewer stockholders
and no stock exchange is involved in dividend payment process
Board members know identity of stockholders when they authorize dividend (short list, largest stockholders
usually on the board)在授权分红时知道股东的身份
Easy to inform all stockholders of decisions, and actually pay it, since no public announcement and no need for exdividend date 易于通知，没有公开宣布和不需要除息日
Record and payable dates can be any day after day board approves dividend 可以是批准后的任意一天
Stock Repurchases 股票回购
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Popular method of distributing value to stockholders, company buys some of its shares from stockholders
How Stock Repurchases Differ From Dividends
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Do not represent a pro-rata distribution of value to stockholders since not all stockholders participate 不代表对股
东价值的按比例分配
When company repurchases, it removes them from circulation, which reduces number of shares of stock held by
investors, removal can change ownership by increasing/decreasing fraction of shares owned by major
stockholders and may diminish ability to control company
o Also, if company has relatively small shares, and distributes large amounts of cash to investors through stock
repurchase, there will be less liquidity for remaining shares (can cause a public firm to go private) 上市公司
私有化
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Stock repurchases are taxed differently than dividends
o Total value of dividends is normally taxed 股息通常是要征税的
o When stockholder sells shares back to company, the stockholder is taxed only on profit from the sale
o Stockholders can choose whether to participate in a repurchase plan, so they are able to choose when they
pay taxes on profits from selling their stock
Dividends and stock repurchases are accounted for differently on balance sheet
o Company pays cash dividend = cash is reduced
o Company uses cash to repurchase stock = cash reduced, treasury stock account on L&E side is increased
How Stock is Repurchased 股票如何回购
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Open-Market Purchase- companies purchase shares in the market, very convenient to repurchase on ongoing
basis (most common way) 公开市场购买，最常用
o Not practical when you have a large amount of cash to distribute bc govt limits number of shares a company
can repurchase in a given day 限制回购数量
o Limits intended to restrict ability of firms to influence their stock price through trading activity
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Tender offer- open offer by a company of purchase shares, used to distribute large amounts of cash at one time
公司公开发行购买股票的邀约，用于一次性分发大量现金
o Fixed Price TO- management announces price that will be paid for shares and the maximum number of
shares that will be repurchased and interested stockholders tender their shares by letting management
know how many shares they are willing to sell 固定价格向管理层宣布和将要回购的最大数量，最感兴趣
的股东出售股票
o If number of shares tendered > announced maximum, then the maximum number of shares are repurchased
and each stockholder participates in proportion to the fraction of total shares they tendered 如大雨宣布的
最大认购股份数，则回购最大认购股份，美味股东按比例参与
o Dutch Auction TO- firm announces number of shares it would like to repurchase and asks stockholders how
many shares they would sell at a range of prices just above current price 拍卖公司宣布想要回购的数量并
报价
o Alternative prices are set higher than market price to make offer attractive to shareholders 一般高于市场价
格，是对股东有吸引力
o Management collects offers and determines price and stockholders who indicate a willing enss to sell at or
below price will receive it 管理层收集报价并确定，表示愿意或低于价格出售的股东将收到报价
Targeted Stock Repurchase (second most common way) 有针对性的股票回购 （第二常见方式）
o Used to buy large blocks of shares from major stockholders
o Benefits stockholders who are not selling bc managers may be able to negotiate a price per share that is
below current market price, which is possible bc only other alternative for stockholder to sell those shares is
to offer them at a below-market price in the open market
o Less likely that shares will fall into the hands of an unfriendly investor
o Average stock price reaction is negative 股价反应是负面的
o 从大股东手中购买大量股票
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Stock Dividends 股票派息
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Type of dividend that doesn’t involve distribution of value 不涉及价值分配的红利
Company distributes new shares of stock on a pro-rata basis to existing stockholders 按比例向现有股东分配新股
When stock dividend is paid, the number of shares outstanding increases but this is just an accounting change
since no assets are going out of the company, just value of each share decreases 发行在外的股票数量增加了，
但这只是会计上的变化，因为没有资产流出公司，只是每股价值减少了
Stockholder is left with exactly the same value as before 股东将得到与之前完全相同的价值
Stock Splits 拆分股
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Similar to stock dividend but involves the distribution of a larger multiple of the outstanding shares
Is an actual division of each share into more than one share, eg. Two for one stock split is when stockholders
receive one additional share for each share they own
Occur infrequently during the life of a company 很少发生
Nothing substantial changes, doesn’t change nature of company's assets, shares represent same proportional
ownership as original shares, value of cash flows against which stockholders have claims remains relatively
unchanged
Reasons for Stock Dividends and Splits
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Trading Range Argument- successful companies use stock dividends/splits to make their shares more attractive to
investors 交易范围论证
o If price of stock of successful company were to continue increase over time, then few investors would be
able to purchase a round lot (multiple of 100 shares), which could affect the company's stock price
o It has historically been more expensive for investors to purchase odd lots (less than 100 shares)购买零星批
次的价格更高
o Odd lots less liquid because more want round lots, and it is more expensive to service odd-lot-owners
When buying a round lot becomes too expensive, investors may avoid buying stock at all
Stock dividends/splits are ways to bring stock down to appropriate trading range 是将股票降至适当交易区间的
方法
This argument doesn’t have much support because after split, the stock's dollar trading value doesn’t appear
higher than it was before, and nowadays transaction costs are minimal between odd and round lots
Shares of some companies trade at per share prices far above typical trading range
Only real benefit of stock splits = sends positive signal to investors about management's outlook for the future =
higher stock price 未来股价上涨
o Management only likely to split stock when it is confident that current market price is not too high and will
not decline 只有确信当前市场价格不过高而且不会下跌时才可能拆分股票
Companies occasionally do reverse stock splits where number of shares owned by each person is reduced (1 for 10
split)
May be undertaken to satisfy exchange requirements (eg. NY stock exchange requires listed shares to trade for
more than $5, NASDAQ at least $1 since being removed from stock exchange can dramatically reduce liquidity and
harm ability to raise capital in the future
Setting a Dividend Payout 设定股利支付
1. Firms tend to have long-term target payout ratios 往往有长期的目标支付比率
2. Dividend changes follow shifts in long-term sustainable earnings 随着长期可持续收益的变化而变化
3. Managers focus more on dividend changes than on the level (dollar amount) of the dividend 更关注变化而不是
股息本身的价格
4. Managers are reluctant to make dividend changes that might have to be reversed
 In general, managers use dividends to distribute earnings and concerned with unnecessarily surprising investors
with bad news
 Maintaining level dividend payments is as important to executives as the investment decisions they make
 Expected stability of future earning affects dividend decisions
 Rather than setting a target level for repurchases, managers prefer to repurchase shares using cash that is left
over after investment spending 更喜欢用投资支出后剩余的现金回购股票，而不是设定回购的目标数量
 Prefer repurchases because programs are more flexible than dividend programs because they can be used to time
that market by repurchasing when stock price is too low 选择回购是因为回购计划比分红更灵活，可以在股价
过低时回购
Practical Considerations in Setting a Dividend Payment 设置股息支付的实际考虑的一些问题
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Payout decisions depends on how excess value is distributed, haw much value is to be distributed
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Firm needs to make payout in a way that enables them to continue making investments necessary for firm to
compete in its product market
Practical Questions to consider:
o In Long-term, how much does company's level of earnings exceed its investment requirements? How certain
is this level?
o Does firm have enough financial reserves to maintain dividend payouts in periods where earnings are down
or investments are up?
o Does firm have sufficient financial flexibility to maintain dividends if unforeseen circumstances wipe out
financial reserves when earnings are down?
o Can firm quickly raise capital if necessary?
o If company chooses to finance dividends by selling equity, will changes in number of stockholders have
implications for control of company?
o
Options and Futures 期权和期货
Introduction to Options
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Instead of investing directly in common stock, investors can purchase securities representing a claim (option) on a
particular stock/group of stocks
Option gives holder the right to receive or deliver shares of stock under specified conditions
Usually not exercised (not worth exercising)
Investors usually buy and sell these equity-derivative securities- that derive their value from the equity prices of
the same corporation 通常买卖这些股票衍生证券
Gains/losses depend on difference between purchase price and sell price 收益/损失 取决于价格差异
Interest rate derivative securities (eg. Bond options and future contracts on bankers' acceptances) are also
commonly used derivatives 债券期权和承兑汇票
As derivative securities, options are innovations in risk management, not in risk itself, and should be welcomed
and used by investors and portfolio managers
Options Basics
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Options- represent claims on an underlying common stock, created by investors and sold to others 对普通股的所
有权，有投资者创造并出售给他人
Company whose common stock underlies these claims has no direct interest in the transaction since it is not
responsible for creating/terminating/executing put and call contracts 基础股公司在该交易中没有直接利益
Call option contract- gives the holder the right but not the obligation to buy ('call away') a specified number of
shares of particular common stock at a specified price any time prior to a specified expiration date 看涨期权合
约；给持有者权利而非义务在特定日期之前以特定价格买入特定数量的普通股
Investors purchase calls if expect stock price to rise because price of call moves with stock price
Calls permit investors to speculate on a rise in price of common stock without buying stock itself
Put Option Contract-gives buyer right but not obligation to sell ('put away') a specified number of shares of a
particular stock at a specified price prior to specified expiration date 看跌期权；给买方权利而非义务在指定的
到期日之前一直定的价格卖出特定数量的股票
If exercised, shares are sold by owner of put contract to a writer (seller) of contract, who has been designated to
take delivery of shares and pay specified price
Investors purchase puts if they expect stock price to fall because value of put will rise with decrease in stock price
如果投资者预期股价下跌，就会购买看跌期权，随着价值下跌而上升
Why Options Markets?
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Purchase shares if you are bullish about company's prospects rather than buy a call/sell a put
One can sell a company's shares short if bearish about the stock rather than buy a put/sell a call
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Why create these indirect claims to stock as an alternative way to invest?
o Expand the opportunity set available to investors, making available risk-return contributions that would
otherwise be impossible, or improve risk-return characteristics of a portfolio
 Selling a stock short and buying a call decreases risk on the short sale for the life of the call since the
investor has a guaranteed maximum purchase price until call option expires
o For calls, investor can control for a short period, a claim on underlying common stock for a much smaller
investment than required to buy the stock itself
 For puts, investor can duplicate a short sale without a margin account and at a modest cost in relation
to the value of the stock, and option buyer's maximum loss is known in advance and if option expires
worthless, the most the buyer can lose is price of option
o Provide leverage by maximizing percentage gains in relation to buying or short selling the underlying stock
 Leverage greater potential than fully margined stock transactions
o Using options on a market (eg. S&P/TSX 60 Index), investor can participate in market movements with a
single trading decision
Options Terminology
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Exercise (Strike) Price- per-share price at which the common stock may be purchased (like w/call) or sold (put)
o Most options available at several different exercise prices, new prices added as stock price changes
Expiration Date- last date on which option can be exercised, vary by stock
o Puts/calls designated on month of expiration, with equity options expiring on the Saturday following the
third Friday of the month
o Forces clients to make decisions on Friday
Option Premium- price paid by option buyer to writer(seller), whether put or call
o Stated on a per-share basis for options on organized exchanges
o Standard contract is for 100 shares
Options exchanges have introduced combinations of standardized expiration dates, called trading cycles and
standardized exercise prices
Open interest = number of options of a particular series that are presently outstanding, used as a measure of
liquidity along with volume of trading
Long-Term Options/ LT Equity Anticipation Securities- options with maturities greater than one year and ranging
to 2+ years
How Options Work
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Buyer and seller have opposite expectations about the likely performance of the underlying stock and
performance of the option
o Call writer expects price of stock to remain relatively steady/move down 看涨期权卖方看跌
o Call buyer expects price of stock to move upward and relatively soon 看涨期权买方看涨
o Put writer expects the price of stock to remain roughly steady/move up 看跌期权卖方看涨
o Put buyer expects the price of the stock to move down and relatively soon 看跌期权买方看跌
3 Course of action possible with any option:
 Option may expire worthless
o Eg. Price is $45 on expiration date but call gives owner right to purchase shares at $50 which makes no sense
to exercise when there is lower market price
 Option mat be exercised
o Share appreciates above $50, exercise option by paying $5000 ($50 exercise fee x 100 shares) and resell and
make profit (taking into account subtracting commission fees)
 Option can be sold in secondary market
o Both share and value of call appreciate, can easily sell call in secondary market since listed options are
traded continuously
o Most valuable puts/calls don’t get exercised, but sold on open market like common stock
The Mechanics of Trading
The Options Exchanges
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Most exchange listed options are American style = can be exercised at any time up to and including expiration
date 美国式；可以在包括到期日在内的任何时间执行
Index and Over-the-Counter options = typically European = only be exercised on expiration date, options can be
bought/sold through an exchange facility or privately arranged (OTC) options
ISE = all-electronic market, extremely efficient and competition has led to lower costs, narrower spreads, and
quicker access to markets
Options markets provide liquidity to investors which is important requirement for successful trading
Investors know they can instruct broker to buy/sell whenever they desire at a price set by forces of supply and
demand
Liquidity problems (which plague OTC markets) are overcome by
o Offering standardized option contracts
o Having all transactions guaranteed by a clearing corporation, which effectively becomes the buyer and seller
for each option contract
Market, limit, and stop orders are used in trading puts and calls
Certificates representing ownership are not used with calls and puts, transactions handled as bookkeeping entries
Option trades settle on next business day after the trade
Exercise of equity option settles in 3 business days, just like stock transaction
Investor must receive a risk disclosure statement issued by clearing corporation before initial order is executed
Volume of options traded in Canada has been increasing, there is still traditional problem of thin trading, so many
investors have often taken their option trades to US markets which deal with much larger trading volumes
Largest options exchange in the world = Chicago Board Options Exchange
The Clearing Corporation 清算公司
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Canadian Derivatives Clearing Corporation- the clearing corporation that issues and guarantees all equity, bond,
and stock index positions on options exchanges in Canada, owned by ME
US= all listed options are cleared through the Options Clearing Corporation
Exercise on options trading on exchanges is accomplished by submitting an exercise notice to a member firm,
which then assigns it to one of its accounts
Clearing corporations function as intermediaries between the brokers representing the buyers and the writers
o Once brokers representing buyer and seller negotiate the price on the floor of the exchange, then contract
through the CDCC to deliver shares, and buyers receive right to purchase shares from CDCC
o Becomes buyer for every seller and seller for every buyer, net position = 0, guaranteeing all contract
obligations will be met
o Prevents problems that may occur as buyers attempt to force writers to honour their obligations
Investors wishing to exercise options inform brokers, who inform CDCC of exercise notice so once option holder
submits exercise note, process is irrevocable
CDCC randomly selects a broker on whom it holds the same written contract and broker randomly selects a
customer who has written these options to honour the contract
o Writers assigned obligation (received assignment notice)
Writer cannot execute an offsetting transaction to eliminate the obligation (call must sell, writer must purchase)
Advantage of clearing corporation = transactors in market can easily cancel positions prior to assignment, CDCC
will cancel out both obligations to terminate position
o Call writer can terminate obligation to deliver stock any time before expiration date by making 'closing
purchase transaction' at current market price of the option
Options cannot be purchased on margin, buyers must pay 100% of purchase price
o Margin- collateral that option writers provide their brokers to ensure fulfillment of contract in case of
exercise, can be in firm of cash or marketable securities
Some Basic Options Characteristics
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If Price of common stock (S) > exercise price of call (E) = call is in the money and has immediate exercisable value
S<E = out of the money
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S slightly smaller than E = near the money
S = E = at the money
Futures
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Futures contracts are an important component of derivative securities, and represent a major innovation in risk
management (like options)
Why Futures Markets
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Physical commodities and financial instruments = traded in cash markets
Cash contract- calls for immediate delivery and is used by those who need a commodity now, cannot be cackled
unless both parties agree, current cash prices can be found daily in financial media
2 types of cash markets:
o Spot Market- for immediate delivery, spot price = current price of item available for immediate delivery
o Forward Market- for deferred delivery (a commitment today to transact in the future), forward price is price
of item that will be delivered at specified time in future 今天承诺在未来交易
FM = producing company agrees to deliver item in future at a price negotiated today, no funds exchanged yet but
both parties reduced risk
Forward contracts are centuries old (Romans and Greeks)
Organized future markets - since mid-19th century Chicago, are organized and standardized forward markets,
standardizes non-standard forward contracts (establishing features such as contract size, delivery dates,
conditions of items delivered)
Only price and number of contracts left are left for future traders to negotiate
Individuals can trade without personal contact because of centralized marketplace
Performance is guaranteed by a clearing house, relieving one party from worry that other party will fail to honour
commitment
FM serve valuable economic purpose = allow hedgers to shift price risk to speculators
More participants willing to risk price fluctuations
FM also perform price discovers: price of futures contracts reflects current expectations about values at some
future date, transactors an establish current prices against later transactions
Current Futures Markets
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Traditionally futures trading was for commodities like gold and wheat, but now money is a commodity
2 categories of futures contracts currently traded on futures exchanges
o Commodities- agriculture, wheat, metals, energy-related
o Financials- foreign currencies, debt and equity instruments
For each type of contract (eg. Corn, silver), different delivery dates are available
Each contract will specify trading unit involved and delivery grade necessary
Investors can also purchase options on futures contracts
Only commodity exchange in Canada is ICE Futures Canada
Financial futures contracts presently trade on the ME on 3 month bankers' acceptances
Futures markets in Canada are very small and much less developed than those in the US, both in terms of variety
of available products and trading volume 加拿大期货市场远小于美国
International Futures Markets
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Quite competitive in Europe
Most systems are now fully automated order-matching systems
Japan banned them until 1985, has been very active in developing them lately
Commodity futures markets account for most of the futures trading
Futures Contracts
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Futures Contract- standardized, transferable agreement providing for future exchange of a particular asset
between buyer and seller at a specified date for a specified amount, for specified grade and quantity of designated
commodity within specified geographical area or financial instrument
Futures price where exchange will occur at contract maturity = determined today
Is only a commitment not actual purchase and sale, but are still binding since it is a legal contract
Futures trading on ME is regulated by provincial securities administrators
Futures Exchanges
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Voluntary, non-profit associations, typically unincorporated
Provides organized marketplace where established rules govern conduct of members
Financed by membership dues and fees charged for services rendered
Limited number of memberships which can be traded at market-determined prices like stock exchange
Members can trade for own accounts (floor traders) or as agents for others (floor/commission brokers)
Futures Commissions Merchants act as agents to general public and receive commission, customer can establish
an account with them
The Clearing Corporation
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Used to reduce default risk and to arrange deliveries as required
Also ensure participants maintain margin deposits or earnest money, to ensure fulfillment of contract
CDCC does this, also ICE Clear Canada
Operates in same way as one for options
Buyers/sellers settle with clearing house and not each other, stands ready to fulfill contract if either buyer/seller
defaults, therefore helping facilitate an orderly market
Is impersonal, = key to success since buyer/seller can close out and be assured of payment
The Mechanics of Trading
Basic Procedures
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Contract is not really being sold/bought because no money is exchanged in negotiations
Instead of buy and sell, we say:
o Short Position- 做空(seller) which commits a trader to deliver item at contract maturity
o Long Position- 做多(buyer) commits a trader to purchase an item at contract maturity
Futures trading is also a zero sum game
Unlike options contract, involves not a right but an obligation to take/make delivery 和期权不同的是，涉及的是
义务，不是权利
Can be settled by delivery (less than 1% of the time) or by offset
Offset-liquidation of a futures position by an offsetting transaction- buyers sell their positions and sellers buy their
positions prior to the settlement of the contract (delivery)
Each exchange established price fluctuation limits on the various types of contracts
Stock positions, short or long, can be held forever, but futures positions may be closed out within a specific time
There are no specialists on futures exchanges
Each contract traded in specific pit (ring with steps descending to centre)
Trading follows auction market process, where every bid/offer competes without priority as to time and size,
system of open outcry signals
Brokerage commissions are paid on basis of a completed contract (purchase and a sale), rather than being
exchanged for each purchase and sale
Like options, no certificates
Open interest = contracts that are not offset by opposite transactions/delivery, measures number of unliquidated
contracts at any time on a cumulative basis
Margin
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Margin- the down payment in a transaction in which money is borrowed from the broker to finance the total cost
交易中向经纪人借款以支付总成本的首付款
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Futures Margin-not down payment since ownership of item is not being transferred at time of transaction, instead
refers to 'good faith' or earnest money deposit made by both buyer and seller to ensure completion of the
contract, is a norm in futures trading 买卖双方为保证合同的完成二存入的保证金，而不是定金，是交易的规
范
Each clearing house sets own minimum initial margin requirements, identicla for both buyers and sellers, is small
in relation to contract itself (2-10%), represents equity of the transactor
Each contract requires maintenance margin below which the investor's net equity cannot drop
Net Equity- value of deposited funds + open profit - open loss
If market price of futures contract moves adversely to owner's position, equity declines
Margin calls = when price goes against investor causing their equity to fall below the maintenance margin level,
requiring transactors to deposit additional cash or close out account withdrawal of funds from futures account can
only occur if net equity rises above the initial margin requirement
Mergers and Acquisitions
Types of Takeovers 收购的类型
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Takeover- the transfer of control from one ownership group to another 接管 控制权从一个所有权集团转移到
另一个
Acquisition- when one firm (the acquiring firm or bidder) completely absorbs another firm (target firm), so
acquiring firm retains identity and acquired firm ceases to exist 收购 一个公司完全吸收另一个公司，所以收购
公司保留身份，被收购的公司不再存在
Merger- the combination of two firms into a new legal entity 合并-两个公司合并成一个新的法律实体
Some mergers run into issues over the intent to merge equals, or issues arise because after companies have
announced their intention to merge as equals, events occur that take them down a different path
Financing Takeovers 融资收购
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When classifying mergers/acquisitions, etc., must consider means by which deal is financed
Most are made through cash transaction- where shareholders in target company receives cash for their shares 大
多数是通过交易现金进行的， 目标公司的股东从其股票中获得现金
When one company acquires another, the approval of the target company's shareholders is required since they
have to agree to sell their shares, while shareholders of acquiring company do not normally have to give their
approval 当 A 收购 B，必须要得到 B 股东的批准，因为他们必须统一出售自己的股份
Share Transaction- acquiring company offers shares or some combination of cash and shares to the target
company's shareholders 股票交易， 收购公司向目标公司的股东提供股票或现金股票的组合
Often does require the approval of the acquiring firm's shareholders, depending on whether firm has limit on its
authorized share capital
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If firm's authorized share capital is limited to 3 million shares and it wants to offer shares in excess of this,
need shareholder approval
Can get approval to issue unlimited shares
Amalgamations 融合
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In merger, new company is created so both sets of shareholders agree to exchange their existing shares for shares
in the new company = amalgamation 同意用现有股份交换新公司的股份
Basic rule is that 2/3 of the shareholders of both amalgamating firms have to approve the special resolution to
amalgamate and can result in intense battles
Amalgamation also takes place when acquirer has purchased all the shares in the target, but in this case, since the
acquirer owns all the shares, the process is a formality
Can also become a tense situation after firm has partially completed a takeover, where acquirer can end up with
majority of shares (70%) so it knows it can get 2/3 majority to approve amalgamation but 30% of shares
outstanding held by dissident shareholders who have not agreed = Going Private Acquisition/ Issuer Bid (common
in Canada)
Presumption that controlling shareholder has a much more accurate knowledge of true value of shares and will
abuse this position unless safeguards are in place
Critical safeguards = majority of minority shareholders approve the special resolution to amalgamate the two
companies and that there be a Fairness Option- independent expert's opinion about the value of a firm's shares,
based on external valuation 关键保障措施：多数小股东同意合并两家公司的特别决议，并有一个公平期权—
给与外部估值的独立专家对一家公司股票价值的意见
These valuations are difficult sink with a controlling shareholder, there is possibility of any other party buying the
shares 在有控股股东的情况下，这些估值很难下降，任何其他地方都有可能购买这些股票
o Ontario securities law: when minority shareholders hold less than 10% of shares, they must accept the offer
that has been accepted by other shareholders, this prevents holdup problem that might occur if last
shareholder asks for ridiculously high price
Securities Legislation 证券立法
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Authorities can reject takeovers due to: 可以根据以下条件拒绝收购
o Concerns related to national security 与国家安全有关的担忧
o Concerns about 'sensitive' industries that are seen as critical to the nation (eg. Foreign ownership restriction
for Canadian banks) 黑市委对国家至关重要的敏感行业的担忧
o Anti-trust concerns in situations where an amalgamation of two or more businesses would create an entity
that would too narrowly restrict competition 过于狭窄的限制竞争的情况下，会出现发垄断问题
In Canada, regulator review takeovers over $1 billion and subject them to the net benefit rule 超过 10 亿美元进
行审查，并遵守净收益规则
Securities legislation is relevant for all potential takeovers because it governs the exchange of shares by the target
company's shareholders and protects their right to receive full value for their shares 与所有潜在的收购都想管，
管理者目标公司股东的股票交换，并保护他们从股票中获得全部价值的权利
Investors should be aware of critical shareholder percentages:
o 10% = early warning
 Level of shareholding by any one owner that requires a report to be sent to the OSC, letting company
know who owns its shares and whether significant block has been bought by a potential acquirer
o 20%=takeover bid
 Shareholder cannot buy any more shares in open market without making a takeover bid (an offer to
purchase outstanding voting shares that, together with the officer's shares, equal 50% or more of
target's shares)
o 50.1%=control
 Company can call a special meeting of shareholders (5% ownership is required to attend) and change
the membership of the board of directors (in Canada, BOD can be removed without cause)
o 66.7%=amalgamation
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Can seek to hold special meeting of shareholders to vote on amalgamation which may still be disputed
by majority of minority shareholders
o 90%=minority squeeze out
 Can force minority of the shareholders to sell their shares at a takeover price
Most firms purchase a little less than 10% that trigger early warning, then purchase 20% = obtaining a toehold
o Done to acquire shares at market price without paying premium
Takeover bid applies only to individuals alone or working on concert with others, otherwise company could buy
205 of self and get friendly parties to buy two more blocks of 20% and affect takeover without making a takeover
bid
Due to Ontario Securities Act, a takeover circular (similar to prospectus) describing the bid, financing and all
relevant information must be sent to shareholders to review, then target has 15 days to circulate letter indicating
acceptance/rejection of takeover, and bid has to be open for 35 days from its announcement in news/mailing of
docs to shareholders
Shareholders then tender (sign an authorization accepting a takeover bid made to target company shareholders)
to offer by signing authorizations sent to them
If another firm makes competitive offer, they can withdraw their acceptance, increases takeover window by 10
days
Takeover bid does not have to be for 100% of shares
o Eg. Can tender 80% and buy 60%, everyone who has tendered gets 75% (60/80) of shares tendered
o While offer is still outstanding, acquirer can buy another 5% of shares through the facilities of the stock
exchange as long as it announces its intention
Tender offer price cannot be for less than avg price of shares that the acquirer has bought in the previous 90 days
(to prevent coercive takeover bid, where acquirer offers one price for shares needed to get control and a lower
pike once it has control) = two=part tender offer and it is illegal in Canada
Basic objective of rules = ensure acquirer treats all shareholders fairly and everyone gets the same price
o Otherwise, economic incentive to lock up shares early at high price so acquirer has control and then offer
lower price cowing no one else can mount competing bid
You can be exempt from OSA if:
o Limited involvement by shareholders in Ontario = securities legislation in another province will apply
o Securities legislation is concerned with involvement of public, so private firms exempt
o Acquirer can buy shares from fewer than 5 shareholders as long as premium over the market price is not
more than 15% (to allow sale of blocks of shares)
o Normal tender offer can be made through stock exchange as long as no more than 5% of shares are
purchased over 1 yr. period, allows for creeping takeovers- company acquires target over long period of
time by slowly accumulating shares
Friendly vs. Hostile Takeovers
Friendly Takeovers
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Difficult to value a company when an external party only has access to public sources of info, so when there is
uncertainty, to go target company and ask whether it is interested in being acquired, hopes for willing, friendly
acquisition
These acquisitions start out when target voluntarily puts itself into play, usually if founder is no longer playing part
in business and it is time to leave controlling owner and be sold to other interests
Firm decides to sell itself, consults an investment bank and puts together offering memorandum that describes
most important features of company to potential buyers (similar to abbreviated prospectus), and used so that fir
value can be estimated
Target firm can disclose more info through data room- where keeps confidential information about itself for series
buyers to consult, cannot be accessed without a confidentiality agreement- that it will keep info available
confidential and will no use data to harm target company (eg. Hiring away key employees, approaching key
customers)
o Usually a time limit on these restriction
Due Diligence- process of evaluating a target company by a potential buyer
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Then acquirer signs letter of intent- that sets out the terms of an agreement and allows the acquirer to do third
stage of diligence process where legal team checks the title for property, terms of contracts, etc., to make sure
that all claims in data room docs are correct, firm owns what it says to owns
Letter usually contains no-shop clause- target agrees not to try to find another buyer, demonstrating commitment
close to transaction
o usually includes break fee- 2.5% of transaction value that must be paid by either acquirer or target to other
party to terminate acquisition, is controversial bc BO has fiduciary duty to act in best interests of
shareholders and get best possible price
o Fee designed to compensate original acquirer for costs of negotiatiating agreement and reward it for
generating competing bid and getting target shareholders a better price
Last step = once due diligence has been worked out and acquirer satisfied, final sale agreement is reached and
ratified (agreed upon by both parties)
o Private firm = the end
o Public firm = deal goes out to shareholders for approval
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If friendly transaction, acquisition structured for mutual benefit
Key areas:
o tax planning- cash used to purchase company is always taxable in hands of target company shareholders
 If share price goes up, shareholders pay capital gain tax on appreciation of value of their shares
 Share swap is non-taxable, so used in many small acquisitions
 Due to tax concerns, target company's assets not shake are sold to acquirer = asset purchase- target
firm receives proceeds from sale and uses them to pay off debts, then firm can either reinvent itself,
liquidate itself, or pay out proceeds to shareholders
 This is attractive to acquiring firm, bc it can depreciate assets at value it has paid for them, and tax
advantages from higher CCA value
o legal structuring to avoid certain liabilities,
 Acquirer does not wish to assume certain contingent liabilities (eg. Potential warranty claims that
create uncertainty, so warranty may be sidestepped by buying certain assets)
 Environmental claims though, always follow assets and can't be dodged by selling asset to someone
else
 But usually, legitimate claims can be avoided simply by reorganizing the firm
o proving milestones for incentive agreements, possibility of 'cherry picking' for more evaluable assets
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Deals often fall through due to disagreements about firm's value (managers tend to be optimistic about future
prospects, acquirer may be cautious
To bridge value gap when acquisition is small, earn outs (acquirer pays upfront price and makes future payments
conditional on performance of target, usually based on divisional sales, or other objective data
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Hostile Takeovers
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Target has no desire to be acquired, actively rebuffs acquirer and refuses to provide any confidential information
acquirer usually has toehold and has 20% of shares, so target knows it's in for a fight
Usually tender offer in which acquiring firm makes a public offer to purchase shares of the target firm from its
existing shareholders
Bidder may include provision that the offer is only good subject to the bidder being able to obtain a certain
minimum percentage of outstanding voting shares, advantage to bidder is that formal vote by target shareholders
is not required since they merely decide on whether or not they want to sell their shares to acquiring firm
After hostile tender offer has been launched, external parties look for clues like market price immediately jumping
above offer price, meaning competing offer is likely or bid is too low and bidder will have to increase offer price
o If market price close to offer price, price is fair and deal is likely to go through
Then look for amount of trading in target's shares
o Little trading = bad for acquirer since shareholders are sitting on shares and are unlikely to sell
o
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High trading = shares cycle from regular investors to arbs-specialists who predict what will happen in
takeovers and buy and sell shares in target companies with the possibility of earning a premium
 Good for acquirer since arbs only want to sell when the price is right, but buy after announcement so
pay premium and then expect a bigger premium when they sell (motivation is highest possible price)
Target doesn’t want to be taken over at any price and resists bid, entering in anti-takeover tactics but these are
limited since don’t want to interfere with fundamental right of shareholders to dispose of their shares at full
market price
Defensive tactics such as shareholder rights plan/poison pill- plan where non-acquiring shareholders have right
to buy 50% or more shares at a discounted price, which increases number of shares, makes acquisition more
expensive, a nd forces acquirer to negotiate with target company and make friendly offer since BOD can then
remove poison pill through vote (allowed in US)
Canada: acquirer will go to securities commission to get poison pill nullified, can only be used as delaying tactic
and not to frustrate bid like in the US
commission will look at basic criteria:
o Is there a likelihood of another offer?
o Can the offer be withdrawn?
o Are the shareholders lobbying for the removal of the poison pill?
Selling The Crown Jewels- tactic involving the sale of target's key assets which acquiring company is most
interested in to make target less attractive
White Knight- an entity that rescues a target company from a hostile takeover by making a counter bid
o Hostile bidders are successful less than half of the time
Motivations for Mergers and Acquisitions
Classifications of Mergers and Acquisitions
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Acquisitions are made because acquirer thinks target will enhance the firm's long-run value, whose source
depends on type of acquisition and structural changes in economy
3 Broad Classifications of Mergers and Acquisitions
 Horizontal Merger-occurs when two firms in the same industry combine, motive is often to remove a competitor
 Vertical Merger- firm expands by acquiring a company that is closer to its existing customers (going forward) or by
acquiring a supplier that provides inputs into its production process (going backward)
 Conglomerate Merger- when two firms in unrelated businesses combine, motivation is that they face different
risks which tend to cancel each other out, lowering overall risk of company
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Can also be domestic of cross-border (international) M&As- merger involving a Canadian and foreign firm as
either target/acquirer
M&A Activity
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Was increasing, but sharp decline after 2007, mostly driven by limited availability of capital and rapid
deterioration in earnings
Prior to 2008. activity soared in Canadian energy and commodity sectors
No occurs in periodic waves of robust activity
Primary motive for M&A should be synergy-value created from economies of integrating a target and acquiring
company; the amount by which the value of the combined firm exceeds the sum value of the two individual firms
ΔV = VA-T - (VA + VT)
Va = pre-merger value of acquiring firm
VT = pre-merger value of target firm
Value creation Motivations for M&As
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Announcements of M&As try to emphasize synergies, but these gains don’t always materialize
Operating Synergies
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Economies of Scale- arise when bigger is indeed better, Benefits my arise from following economies:
o Reducing capacity if industry has grown too big and too many firms operating in it, is called Over-Capacity
M&A
o Spreading fixed costs which are significant for individual businesses, and are independent of scale.
Increasing company's size spreads these costs over greater volumes and firm is more efficient
o Geographic synergies where an industry may be fragmented and ripe for consolidation, Geographic Roll
Up occurs when a national firm is created out of a series of regional firms
Economies of Scope
o Occurs when the combination of two activities reduces costs
o Typically result when two products share similarities in their production processes, which can be exploited
Complementary Strengths
o Occur if one firm is more efficient in one or more areas of operations than another
o Eg. Marketing-oriented firm acquires a production-oriented firm because it feels product line is not being
sold efficiently
o Extension M&A- extends a firm's expertise, certain organizational cultures are good at doing certain things
Efficiency Increases
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Materialize whenever one or both of the firms involved have excess capacity and poses factors that are currently
being underused
Synergy that arises often involves the elimination of jobs, unless excess capacity exists in things like shipping,
storage, and IT
Improved company management can also increase efficiency since acquiring firm believes its management team
will operate more efficiently than target firm's management team
So, 'market for corporate control' is seen as a viable corporate governance mechanism since inefficient
management will ultimately pay the price
Financing Synergy
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May arise for many reasons usually based on theme that larger is better in accessing capital markets
o Reduced Cash Flow Variability- cash flow volatility is lower for larger entities, especially if cash flows from
underlying businesses are not highly correlated
 enables company to reduce need for external financing since future financing needs can be more
certainly forecasted
o Increase in Debt Capacity- arises due to increase in size and reduction of cash flow volatility
o Reduction in Average Issuing Costs- most issues occur in large increments, so avg cost of new debt or
equity will decrease as firm issues larger amounts
 Also, larger firms can access more sources of capital = cost savings
o Fewer Information Problems- larger firms attract more external security analysts and have greater exposure
in the media = attract big institutional investors = may lower financing costs
Tax Benefits
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Occur when one firm has substantial operating loss credits that it cannot take advantage of because it is not
operating profitably
Losses are valuable because they can be carried forward and used against future profits to reduce taxes
If firm is unlikely to become profitable in the near term, these losses may expire worthless
But if firm combine with a profitable one in same basic line of business, losses can be used to offset the other
firm's profits to reduce taxes
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Tax benefits also arise due to depreciation of capital assets that can be claimed by combined entity, and increased
use of debt financing with more interest tax shields
Strategic Realignments
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Acquisition of new managerial skills and new product/service line growth opportunities resulting from M&A may
allow new entity to pursue strategies that were previously not feasible
Managerial Motivations for M&A
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Are distinct from shareholder motivation
Include:
o Increased Firm Size- may be good or bad, depending on whether synergy was created
 Some M&As have been advocated by managers who were equally concerned with the additional
personal compensation and power they would realize as a result of transaction, personal ego can
destroy value
o Reduced Firm Risk Through Diversification- M&As can diversify a firm geographically, across industries, or
in its product mix- through conglomerate mergers
 Diversification itself is a poor motive for merger because it results additional managerial complications
and lack of focus by managers running disparate businesses
 Markets recognize this and are not willing to pay a premium for diversification, investors pay
premium for 'pure play' companies focused on one strategic plan
Introduction to International Financial Management
Globalization of the World Economy
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Globalization- removal of barriers to free trade and the integration of national economies
Today, large companies, regardless of location, generate around half of their revenue overseas
There are many reminders of globalization, eg. Diverse products we purchase as consumers
Production of goods has also become globalized
o More multinational companies, economies of world have become increasingly interdependent
o Many integrate sales and production operations in 12+ countries
o Firms seek to purchase components and locate production where costs are lower to get higher margins
Financial system has also become highly integrated
o Most of impetus for integration came from govts of major Asian and western nations as they began
deregulating their foreign exchange markets, money and capital markets, and banking systems
The Rise of Multinational Companies
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Multinational corporation- business firm that operates in more than one country, engage in traditional lines of
business (eg. Manufacturing, mining, oil)
May purchase raw materials, obtain financing, produce finished goods with labour and capital equipment, and sell
finished goods all in different countries
Are owned by a mixture of domestic and foreign stockholders
Transnational Corporation- multinational firm that has widely dispersed ownership and that is managed from a
global perspective
o Regardless of location of headquarters, are managed from global perspective
o Are politically controversial because viewed as stateless corporations with no allegiance or social
responsibility to specific nation/region
Factors Affecting International Financial Management
Currency Differences
 Engaging in international transactions are likely to deal in 2+ currencies
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Financial managers need to know how unexpected fluctuations in currency exchange rates affect cash flows and
value of firm
 (Foreign) Exchange Rate Risk-the uncertainty associated with future currency exchange rate movements
Differences in Legal Systems and Tax Codes
 Impact the way firms operate in foreign countries
o US, Canada, India = operate under legal systems derived from British common law
o France, Germany, Italy = French Napoleonic codes
o Chinese and Asian systems have evolved over centuries, focus on moral teachings and legally stipulated
punishments
o Systems vary on simple matters such as the requirements for opening a business, selecting a site location,
and hiring employees, and more complex matters such as taxation of companies and dividends, rights and
legal abilities of ownership, resolution of business conflicts
o Systems affect financial decisions on what assets to acquire, how to organize firm, and what capital
structure to use
Language Differences
 Two important levels of communication in international business:
o business communication: most negotiations and legal contracts use English, which is language of choice, and
knowing it is necessary for senior manager in a multinational company
o Social communications: essential to form relationships of trust, and local languages are essential to this (eg.
At traditional Chinese dinner banquets, preferred social language is Cantonese dialect or French)
Cultural Differences
 Cultural views and attitudes are powerful forces that bind people together and define a particular society, can
vary greatly
 Views also shape business practices and people's attitudes toward business (eg. Germany: firms expected to carry
more equity and less debt)
Differences in Economic Systems
 Determines how a country mobilizes its resources to produce g/s and how production is distributed
 Centrally planned economy: resources allocated/produced/distributed under direction of the central govt, no
financial markets or banking systems to create capital flows
o Central govt sets interest rates and financial manager don't have to worry about budgeting decisions
 Market Economies: resources allocates/produced/distributed by market forces, proven to be more efficient
Differences in Country Risk
 Sovereign nations are usually free to place/remove constraints on businesses
 Country's govt may expropriate business's assets within the country
 Country Risk- political uncertainty associated with a particular country
Goals of International Financial Management
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Maximization of firm value is appropriate goal for management to pursue = greatest amount of wealth for
stockholders
Stockholder value maximization = accepted goal for firms in US, Canada, Australia
In continental Europe (France), focus is on maximizing corporate wealth so stockholders are treated no differently
from stakeholders (eg. Management, labour, suppliers, creditors, govt) and consider overall welfare of both
Japan: Keiretsu=tightly-knit, interlocking business groups, growth is to increase wealth and grow keiretsu, tend to
focus more on maximizing market share
China: transition from command to market economy = sharp differences between state-owned companies and
emerging private sector firms
o State-owned = want to maintain full employment in economy
o Private sector = western standard of maximizing stockholder value
Basic Principles Remain the Same
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Time value of money is not affected by whether a business transaction is domestic or international
Use same models for valuing capital assets, bonds, stocks, and entire firm
Input variables used to make financial calculations don’t change
o Required rates of return often differ and appropriate rate must be used
o Cash flows may be stated in terms of home/foreign currency
o Tax codes and accounting standards also differ