IPOs:
Process and Pricing
Presented to:
The Taiwan Stock Exchange
Gretai Securities Markets
The China Intangible Asset Valuation Association
by
Daniel L. McConaughy, PhD
Partner, Grobstein, Horwath and Company LLP
Associate Professor of Finance, California State University Northridge
Dmcconaughy@horwathcal.com 818-501-5200
March 21, 2005
Grobstein, Horwath & Company LLP
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IPO IS
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an Initial Public Offering of a company’s stock to the
public
an orderly sale of shares to the public following rules
outlined in the Securities Act of 1933 and enforced by the
SEC
A mechanism for private companies to sell ownership
stakes to investors who believe in the companies’ futures
Purposes:
– Growth
– Recapitalization
– Original shareholders diversify
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BENEFITS of being a Public
Company
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Expand and diversify equity base:
Individuals
Mutual Funds
Management &
Venture Capital Funds
Pension Funds
Other Institutions
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Lower cost of capital
Public exposure and prestige
Equity-based compensation opportunities for attracting and retaining key
management and employees
Creation of ‘Currency’ for acquisitions
Facilitates other financing opportunities: equity, convertible debt, cheaper
bank loans, etc.
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COSTS of being a Public
Company

Disclosure requirements
 Scrutiny by and pressure from shareholders
and security analysts
 Shareholder Relations
 Vulnerability to hostile takeovers
 Corporate governance
 Cultural considerations
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Private vs. Public Company
Public Company
Private Company
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Disclosure
- Public quarterly SEC filings
- Detailed review of operating results
- Quarterly investor calls, easier for
competition to asses strengths and
weaknesses
•Disclosure
- Private summary results to shareholders
- Management accounting
- Hard for competition to monitor
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Accountability
- External shareholders
- Research Analysts
- Management
- Board of Directors
•Accountability
- Management
- Shareholders
- Board of Directors
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Forecasting
- Thorough
- Precise
- Conservative
- Must meet or exceed Street expectations –
missing a forecast can result in stock price
drop
•Forecasting
- Primarily for budgeting
- Missing budgeted numbers may impact
bonus payments but does not necessarily
weaken a company’s competitive position or
value
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Preparation for IPO
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Understand and fulfill due diligence requirements
Develop budgeting and reporting processes
Develop timely reporting of key metrics
Develop investor relations and communication
methods to disclose performance changes
Identify key persons to provide communications to
investors
Train investor relations staff for
- responses to outsider inquiries
- information disclosures
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Follow up after IPO
Manage investors’ expectations
 Investor relations activities
- Conference calls
- Press releases
- SEC requirements
- Ongoing discussions with investors and analysts
 Create management credibility
 Ensure responsiveness to changing marketplace
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Getting Started
Preliminaries
 Put together Strategic working group
 Devise structure of offering
 Schedule and assign tasks
 Put together Legal Team
 Publicity
 Make sure Accounting Team has credibility and
expertise
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Getting Started
Duties
Hire the Outside Team
 Lead Manager
 Co-mangers
 Issuer’s counsel
 Underwriters’ counsel
 Accountants
Prepare the Internal Team
 Structure
 Strategy
 Due diligence
 Disclosure
 Must be able to work effectively with Outside Team
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Getting Started
Structuring the Offering
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Size
Number of shares authorized
Follow-on issues
Status of mezzanine financing
- pay in cash
- give shares
Review existing shareholders
Determine lock-up agreements with company, principal shareholders,
officers, directors
Underwriter distribution objectives/syndication
Selection of listing exchange
Selection of stock symbol
Use of proceeds
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Getting Started
To Do List
 Due diligence – making sure things are OK
 Drafting legal documents and regulatory filings
 Audited financials
 Shareholder communications
 Board meetings
 Filing with SEC
 SEC review period
 Roadshow
 Pricing and offering size
 IPO follow up details
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Getting Started
Legal Considerations
 Outstanding claims
 Loan agreement restrictions or other consents
needed to offer shares
 Board meetings
 Disclosure of confidential agreements
 Request of confidentiality or treatment of
confidential information
 Possible lawsuits
 Possible acquisitions, divestitures, restructuring,
management changes
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Getting Started
Investor Relations
 Quiet period
 Industry presentations
 Press releases/other corporate announcements
 Interviews or articles on company to be published
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Getting Started
Financial and Accounting Matters
 Prepare historical and pro forma audited financial
statements
 Identify unusual items requiring advance
discussion with SEC
 Auditors comfort letter to the underwriter
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Getting Started
Time Line
2 months
2 –3 months
Prior to filing
SEC Review
- Due diligence
Valuation
- Choose comanagers
- Documentation
- Positioning
- File
registration
statement
- Prepare for
roadshow
presentation
- Respond to SEC
Comments
1 month
Marketing the Issue
- “Red herrings” – print
and distribute
- Stock Analysts present
to underwriters’ sales
forces
- Target key investors
- Create underwriting
syndicate
- Presentations to sell-side
analyst
- Roadshow presentations
- Develop the “Book”
i.e.,institutional and retail
demand
Continuing…
Pricing, Trading and
Follow-on Support
- Analyze pricing
issues and investor
feedback
- Determine allocation
to retail & institution
- Begin aftermarket
trading
- Closing details
- On-going research
- Investor relations
begins and continues in
earnest
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Due Diligence Process
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Corporate Level Company
History
Mission statement/vision
SWOT (Strength Weaknesses Opportunity Threats) analysis
Objectives and key challenges
Management team/organizational chart
Key investment highlights
Strategic position in the industry
Industry size/growth rates
Market drivers
Major industry trends(spending, commissions, etc.)
Consolidation
Segmentation/target markets
Cyclicality
Regulatory environment
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Due Diligence Process (cont’d)
At the Corporate Level
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Products/Services
- Description of each major product/service category
- Market size by category
- Sales and margins by product/service category
Customers
- Breakdown of total customers/subscribers(business vs. consumer, small vs. large, etc.)
- Historical growth in customer/subscribers
Suppliers
- List of key suppliers(number, sourcing policy, relationships, price volatility)
Growth Strategy and Projections
- Organic growth opportunities
- Strategy for growing below-the-line business
- Key areas for new development
Acquisitions/Ventures
- Any planned or pending acquisitions
Legal
Human resources
- Retention of key employees after the IPO
THERE MUST BE A COMPELLING STORY
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Due Diligence Process (cont’d)
At the Business Unit Level
Business Units
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Business Unit Strategy
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Review Major Business Units
- Competitive strengths/points of differentiation/areas of weakness
- Growth strategy
- Employees (breakdown, hiring, turnover, retention plans)
- Pricing trends/margin trends
- Significant threats/opportunities
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Financial Reviews
- Reconciliation of budget vs. actual results
- Annual historical/pro forma financial data and key operating statistics
- 3-year projected financial results
- detailed model including income statement, balance sheet, cashflow
- Sales and profitability breakdown between traditional and below the line sales
- Financial objectives (revenue growth, operating margin, leverage statistics, etc.)
- Major accounting issues (revenue recognition, receivables, write-off policies, reserves, etc.)
- Exposure to exchange rates and how foreign currency exposure is managed
- Internal auditing procedures
- Tax position, current and future
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Due Diligence Process (cont’d)
At the Business Unit Level
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Budgeting and Forecasting
 Personnel
- Recent and planned management changes
- Compensation philosophy (salary vs. bonus, how bonuses are determined, share
ownership, etc.)
- Employee recruitment and retention strategy
- Significant employee agreements
 Customer Review
- Concentration last 3 yrs and projected
- Revenue breakdown (by service, customer, industry, geography)
- Recent major wins/losses and reasons
- Customers at risk
- Summary of contract terms for key customers
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Preparing the Registration
Statement
Typical contents
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Prospectus summary
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Risk Factors
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Use of Proceeds
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Capitalization
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Selected Financial Data
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MD&A
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Business
- Overview
- Industry
- Competitive strengths/
solution
- Strategy
- Products
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Management
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Principal Stockholders
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Related Party Transactions
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Underwriters
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Financial Statements
-R&D
- Manufacturing
- Sales & Marketing
- Environment
- Properties
- Employees
- Competition
- Customers
- Legal
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Roadshow Presentation
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The company’s opportunity to sell itself to investors
- Domestic roadshow
- 8 – 10 days (typical in U.S.)
- Approximately 100+ face-to-face meetings
- International roadshows usually shorter than domestic
Prior to meeting management investors read prospectus, discuss
company with research analysts and securities salespeople
Group and individual meetings
“Makes or Breaks” the deal
- Investors will ask everything
- Demanding and stressful on top management
- Distracts from running the company
- Must have a compelling story to tell
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Roadshow Formats
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Group Presentations
- company tells its story in detail generally during a meal: can be lunches with
hundreds of investors to smaller groups
- generally conducted by two teams but sometimes they will combine when
necessary
 One-on-One Presentations
- expected to generate the majority of quality institutional demand
- range from meetings with a single portfolio manager/buyside analyst to small
group sessions with multiple portfolio managers and buyside analysts
- will take place in cities throughout the United States and Europe
- will be conducted by the two teams separately with the exception of certain
key accounts where the teams will combine for maximum impact
 Conference Calls
- on as-needed basis with select investors who cannot attend roadshow meeting
- maybe group calls as well as one-on-one
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Pricing Overview
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Teams meet, share feedback and ascertain demand and pricing
When final pricing date has been determined investors are told the
deadline for submitting indications of interest and the closing of the
book
After closing the book the lead manager and co-managers assess:
- Demand
- Price sensitivity
- Allocation issues
- Aftermarket behavior
The lead manager meets the co-management and recommends an
offering price that maximizes the offering proceeds to company and
favorable aftermarket performance
Company and the underwriter agree on offering price, and sign
underwriting and syndicate agreements
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Typical Pricing Process
Pricing Process
Last Days of Roadshow
‘Book’of Demand
•Size
•Quality
•Price Sensitivity
•Likely aftermarket
demand
External Factors
•Recent Developments
- Stock Price
levels
- Market in
general
- Industry
- Comparables
- New Issues
Pricing Day
Trading begins
Analysis
Agreement
on Price/Size
Allocations to
investors at
agreed
initial price
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Market
determines
price
Price
Support
Activity
Green Shoe
Option
Exercised
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After the IPO
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Regulation FD – Fair Disclosure
- The SEC is adopting new rules to address three issues: the selective disclosure
by issuers of material non public information; when insider trading liability
arises in connection with a trader’s “use” or “known possession” of material
non public information; and when breach of a family or other non-business
relationship may give rise to liability under the misappropriation theory of
insider trading. The rules are designed to promote the full and fair disclosure
of information by issuers, and to clarify and enhance existing prohibitions
against insider trading.
Regular filings with the SEC
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Earnings announcements
Quarterly and annual financial statements
Material corporate events
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Manage expectations
 Meet or exceed investors expectations
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IPO Dutch Auction: Innovation
in IPO Pricing
Dutch Auction is an auction method that uses a bidding
process to find an optimal market price for the stock, the
lowest price at which an issuing company can sell all the
available shares. An alternative to the traditional negotiated
pricing process used by underwriters to set IPO prices, this
auction format was most recently employed by Google and
is used for US Treasury auctions. Also called a descending
price auction, it was named after the famous auctions of
Dutch tulip bulbs in the 17th century.
http://www.investorwords.com/1603/Dutch_auction.html
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Dutch Auction Case Study:
Google
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The ABCs of a Unique IPO
 IPO Dutch Auctions vs. Traditional
Allocation
 Case Study: Google IPO Prospectus
 Lifting the Google Lid
 Another View of the Google IPO
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Conclusion
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Improved investor feedback into the pricing
mechanism.
 Will the Dutch Auction gain wider
acceptance?
 Will this reduce the short-term price
increases that often follow the IPO?
 What are the implications for underwriters?
 What are the implications for investors?
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