IB(IPO n M

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Published on July 20, 2011

Author: bhavana_raj_83

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(1) How is a VC funding structured?: (1) How is a VC funding structured? New Managers Private Equity Fund Existing Owners FundingTarget Key terms of a VC financing: Debt and equity High leverage Cost of financing Tax rate on investment Tiers of lending Liquidation preference on Exit (based on ongoing investment) Board representation How is a VC funding structured?: How is a VC funding structured? New Managers Private Equity Fund Existing Owners Funding Target Competing interests of debt/equity providers: Costs of funding Tax Structuring Priority of security/tiers of lending Board Representation Leverage (2) Final Structure -ownership: (2) Final Structure -ownership Managers/ Owners Private Equity Fund Newco 1 Target Co Newco 2 Debt Providers Final Structure -ownership: Final Structure -ownership Managers/ Owners Private Equity Fund Newco 1 Target Co Newco 2 Debt Providers Participation Ratchets for performance Liquidation Preferences (3) Final Structure - Financing: 5 (3) Final Structure - Financing Owners/ Managers Private Equity Fund Newco 1 Newco 2 Target Co Debt Providers prefs mezzanine Final Structure - Financing: Final Structure - Financing Owners/ Managers Private Equity Fund Newco 1 Newco 2 Target Co Debt Providers prefs mezzanine Tiers of lending Leverage Cost Deductible Payments Exit Strategies: Exit Strategies IPO M&A / Trade Sale Dual – track strategies (IPO and Trade Sale) But, traditional exits are not the only options Consolidations Secondary buy-outs / re-caps Break-up and distribution of proceeds Redemption of shares Portfolio sale (VC1 to VC2) Portfolio merger (intra-portfolio) Insolvent liquidation Accelerated IPOs Market Drivers: Market Drivers Secondary Markets (1) Primary Markets Global Rally 1 Volatility Drop 2 Supporting Equity Backdrop 3 Return of Risk Appetite 4 Consensus Outlook Bullish 5 In 2009, DJ Stoxx 600 was up +24% MSCI EM up 72% Record 2009 Issuance Levels a Investors Made Money on New Issuance b Global IPO Market Buoyant c Investors Reverse Enquiring into IPOs d European IPO Market Re-Opened e VIX peaked in November 2008 at 80% Currently at 23% Consumer confidence +30% since February low (2) Q3 2010 interest rates hike Credit indices back to pre-September levels Preference for cyclical stocks, catch up rally for defensives Source: Bloomberg, Broker reports. University of Michigan Survey of Consumer Confidence. Source: Dealogic. (i) Including European follow-ons > €50m. (ii) Includes global IPOs Expected IPOs based on rumoured and postponed IPOs. Limited returns on cash / bonds High cash balances and increasing fund flows in EM stocks Attractive valuations Europe: Delta Lloyd reopened the market in early November Approx 150+ European IPOs in the visible pipeline (4) Investors looking for: quality growth stories, high liquidity, “tried and tested” names, differentiated sector exposure $128bn of IPO issuance primarily from US and Asia (3ii) Strong aftermarket performance Average aftermarket performance of Emerging Markets follow-ons (3i) : Fully Marketed: +25% ABBs: +29% ~$366bn of equity issuance in Europe in 2009 vs. ~$260bn in 2008 ~$262bn of equity issuance in Emerging Markets in 2009 vs. ~$209bn in 2008 Busy 2010 in Terms of IPO Issuance: Busy 2010 in Terms of IPO Issuance Pos. Issuer Region Current Value ($m) No. 1 North America 13,335.86 78 2 Europe 7,315.27 30 3 India 7,089.36 51 4 North Asia 6,286.36 132 5 SE Asia 819.33 24 6 Latin America 471.72 5 7 Australasia 351.24 4 8 Middle East 110.13 2 9 Japan 5.43 2 10 Africa 3.82 1 Total 35,788.51 329 Source: Dealogic Visible Global IPO Pipeline Selective Russian IPOs in the Pipeline However, we estimate over 150 European IPOs in the pipeline with over $30bn of issuance Why IPO?: Why IPO? Clean exit? But lock-ins Higher valuations? Access capital markets Liquidity Prestige Use of paper for M&A post-IPO But: cost, compliance, publicity, board restructuring IPOs – Conflicts and Alignment: IPOs – Conflicts and Alignment Pre-IPO restructuring Conflicts and tensions on commercial terms and ongoing roles and obligations: Founders Directors Early investors (seed, angels, early-stage VCs) Late-stage VCs Scientists Option-holders Timing: Pressure for exits on any terms? Market issues Role of investment banks Impact on option holders Structure: % free float Pricing Underwriting Lock-ins Irrevocables Terms of preference shares Conversion Liquidation preferences Consents / vetoes Reps and warranties Board restructuring pre-IPO – Legal Issues: Board restructuring pre-IPO – Legal Issues Corporate Governance for listed companies The Combined Code When does it apply? Official List or AIM Non-executives Directors’ interests Incentives The Model Code Committees What is investment banking?: What is investment banking? The banking function: The banking function The banking function can be decomposed into: Central banking: Monetary policy (interest rates, money supply) In the UK: Bank of England Commercial banking: Lending to the public (businesses, individuals, banks) Receiving deposits from businesses and individuals In the UK: HSBC, RBS, Barclays, HBOS Investment banking Investment banking activities: Investment banking activities Investment banking activities include: Mergers and acquisitions (+ divestitures) Advise potential buyers on which companies to target Help sellers screen potential buyers Suggestions about what price to offer/accept Negotiation support Structuring the deal ( pay in cash vs. pay in stock) Slide 16: Debt underwriting IB help companies and governments raise money by issuing corporate or government bonds Underwriting: IB act as intermediate between the issuer and investors (individuals, banks, mutual funds, hedge funds, sovereign funds etc.) Act as primary dealers for the government Have a certification role for companies that want to issue bonds Proprietary trading: Trading with the bank own money Slide 17: Equity underwriting - Evaluate the issuer - Determine the offering price - Buy the shares from the issuer - Find investors and sell the shares Initial public offering (IPOs) Asset management Managing short-term cash flows of corporate clients Management of long-term bonds and equity portfolios of investors Institutional investors: insurance companies, pensions funds etc. Private investors Slide 18: Asset securitization Issuance of securities using a pool a similar assets as collateral Mortgage-backed securities, asset-backed securities Private equity: refers to shares in companies that are not publicly traded - Venture capital - LBOs: using borrowed money for a substantial portion of the purchase price of the buyout company - IB can raise funds for private equity funds or manage these funds themselves Investment banks: Investment banks Investment banks are financial institutions that engage primarily in IB activities Investment banks engage in public and private market transactions with corporations, governments and institutional investors. Main differences with commercial banks: - IB have a marginal role in deposits and loan activities. - IB usually take short-term positions, i.e. few days (except in the non-core business of venture capital). Commercial banks take longer term positions. Slide 20: Investment banks are intermediary between those needing funds and those having them: Need funds: Corporations, government Have funds: Corporations, investment vehicles such as mutual funds, pension funds etc. How do they make money? Fees (underwriting, M&A, asset management) Trading revenues Slide 21: Commercial banks Institutions whose current operations consist mostly in granting loans and receiving deposits from businesses and customers Universal banks Banks that combine commercial and investment banking Example: UBS, Citibank, Bank of America Equity underwriting : Equity underwriting Why go public? The IPO process Syndicates in IPOs Market shares in IPOs Underwriting spread in IPOs Underpricing of IPOs Long-run performance of IPOs Slide 23: Debt underwriting Pricing of bonds Yield curve Corporate vs. government bonds Callable bonds, convertible bonds Derivatives products Futures Options SWAPS, CDO, CDS Slide 24: Mergers and acquisitions M&A valuation Determinants of market shares Who gains from mergers? Financing: cash vs. stock Why use IB? Investment banks vs. commercial banks Role of IB in the financial and economic crisis Asset management: - Active vs. passive management - Performance measurement Investment banking in the US: Investment banking in the US The modern concept of “Investment Bank” was created by the Glass-Steagall act (Banking Act of 1933). Following the 1929 stock market crash, large banks went bankrupt. Glass-Steagall separated commercial banks, investment banks, and insurance companies. In 1999 the Glass-Steagall Act was waived (Graham-Leach-Bliley Act). Investment banking in the UK: Investment banking in the UK In the past, separation between: Brokers: Rout the orders of customers to the stock exchange, give advices on investments. They cannot take positions in the stocks that act as brokers for. Jobbers: Market makers that could trade only with the brokers, not with the general public. Merchant banks: Commercial banks that offer corporate finance services (M&A advisory, underwriting etc.). Did not own the brokers. In 1986: Big bang: Abolition of fixed commission to increase competition Dual capacity: Jobbers, brokers and merchant banks can integrate 1990s: The failure of UK investment banks: 1990s: The failure of UK investment banks Problems The US had deregulated fees in 1975 Business became much more complex, more difficult to manage Lack of managerial experience Clash of cultures brokers/jobbers/merchant banks Markets became volatile after the 1987 crash Results became volatile and UK banks made substantial losses 1995 saw many UK banks fail amid losses Slide 28: Reasons for US success since the 1990s Large financial and management resources, meaning that they were less exposed Huge profits in the US market allowed cross-subsidisation in Europe Economies of scale for underwriting activities IPOs: IPOs Why?: Firm gets access to large pool of capital (lowering cost of capital). Current shareholders’ claims made more liquid (hence more valuable). Easier to attract employees (offer stock options). Market provides continuous barometer of performance. Equilibrium Underpricing: Equilibrium Underpricing Although I disagree, many experts look at the bookbuilding process as an optimal way to do IPOs. Smith refers to an important body of work that relies on the same information structure as in the market making game. There are informed traders and liquidity traders. Because IPOs are quantity-rationed, the only way you can entice uniformed traders to participate is to offer an 0-expected return – conditional on winning. Bookbuilding Another aspect of bookbuilding that proponents stress is that it provides valuableinformation (about market perceptions, the economic climate, etc.) to the issuing firm’s management. The only way to get the investors to reveal the truth is through a system that underprices on average and allows for punishment. Investment Banks and Publicity In general an IPO is considered successful if it is followed up with a seasoned equity offering (SEO). IPOs…To be Public or not to be?: IPOs…To be Public or not to be? ADVANTAGES 1. Exit Strategy (Liquidity) for Minority Owners 2. Valuation (Higher) – above Net Asset and Book Value 3. Fleet Growth through access to capital markets 4. Cost of Capital is reduced due to Liquidity of Company’s stock 5. Ability to make acquisitions using company stock DIS-ADVANTAGES 1. Less Confidentiality (complete financial and related party disclosure) 2. Time Consuming (Management devotes time to public company operations) 3. Higher Costs (Regulatory, Auditing, Legal and Investor relations requirements) 4. Continuous scrutiny (Investors and Analysts) 5. Investor’s Interest (not steady) 6. Strategy (not easy to change) 7. Asset play (not easy to conduct) Types of public security issuances: Types of public security issuances IPO Issuances: IPO = Initial Public Offering. The first sale of stock by a company to the public This the most visible type of security issuance with respect to exposure in financial publications IPO firms are being valued by the “market” for the first time, and establishing the initial valuation (based on firm private information) and finding public market investors willing to pay that valuation is the specialization of an investment bank Slide 33: SEO Issuances: SEO = Seasoned equity offering. An already traded firm issues new shares. Market values are already established, so placing these securities is generally less difficult than an IPO since there is less asymmetric information. Types of SEO’s Follow-on offering: Is an SEO in which new shares are issued to the public Secondary offering: Is an SEO in which existing shares held by current owners (like the founder of the firm – Bill Gates of Microsoft for instance) are sold to the market Why go Public?: Why go Public? Lack of other financing choices Private financing unavailable Too costly Fear of loss of control Too much debt, so firm optimizes capital structure Allows current investors to cash out Founders demand liquidity, want to sell stake in firm Firm is valued by the market, shares sold get market price Slide 35: Future source of capital Establish the firm in public capital markets for future capital raising (SEOs, bond issuances) Diversification / Risk sharing Increases transparency of firm actions Employee compensation Firm can offer incentive contracts – stock options Why not go Public?: Why not go Public? Going public is costly, time consuming and may not be appropriate for all firms, even when they are in need of additional financing Ownership is diluted Decision making is delegated to an increased number of owners Founder (entrepreneur) loses control Public monitoring increases Competitors benefit from transparency Regulators have increased authority (legal restrictions to public firms) Slide 37: Direct financial costs Filing costs of prospectus and subsequent filings Investment banks and new investors charge the firm via large transactions costs Shares are underpriced (can be greater than 15%) Underwriters collect fees (7% of gross proceeds) Short-term performance pressures Change in accounting practices The IPO Process: The IPO Process Firm selects an underwriter (investment bank) who also acts as the advisor, basing the decision on: The reputation and expertise of the underwriter (the advisor must be credible) Follow-on products like research coverage Prior relationships between the firm owners and investment banks Distribution channels available to underwriter (institutional clients) The investment banks willingness to take on the firm (high reputation underwriters may not risk their reputation on a firm with uncertain prospects) Slide 39: Firm and underwriter agree on the offering method: Firm commitment : firm sells the entire issue to the underwriter who then attempts to sell it to the public ( insured ) – Although the underwriter fully commits to purchasing the issue, the price is not agreed (or committed to) until later in the issuance process. Best effort: underwriter makes no promise about the price, but makes a best effort to sell at the agreed price ( uninsured ) Rights offering: securities are first offered to existing shareholders (not common in the U.S.) Slide 40: Valuing the offer: Underwriter provides a value of the firm. Firm opens its books to the underwriter so that they have full information for determining value – the underwriter is the agent that reduces asymmetric information Discounted cashflow analysis is one valuation method, but more commonly, underwriters identify a peer group of publicly traded firms and use multiples of different financial metrics to provide a range of values. Firm and underwriter agree and set an offer range, which may change once the underwriter has a better assessment of market interest in the offering. Six to 8 weeks have passed from the selection of the underwriter until the end of the due diligence. Slide 41: Road show : Begins a few weeks prior to the IPO. The lead underwriter visits large investors (institutional) to solicit interest and build a demand schedule ( book building ) Book building occurs with “special” clients of the underwriter, including institutions (Fidelity, Janus etc.) and wealthy private investors. Book building is also spreading to smaller clients through electronic road shows, aided by the internet. Only once the waiting period is over, can the investment bank/underwriter solicit specific pricing and demand information from investors. The waiting period usually ends a few days prior to the IPO, allowing investment banks to reach what they think will be an equilibrium (final) offer price. Slide 42: Offer: Underwriter sells the issue and an exchange begins trading the issue in a secondary market. Depending on demand for shares, the underwriter may have to ration shares to investors. Shares are sold to investors prior to trading in secondary markets New investors who didn’t get an allocation of the primary shares can now buy shares in the open market Investors who received an initial allocation of shares can begin selling them to new investors Investors who are allocated shares and immediately turn around and sell them in the market are not viewed favorably by investment bankers and may be cut off from future allocations. Slide 43: Fees: Underwriters charge issuing firms for their services Fees are earned for reducing the asymmetric information between investors and the firm Investment banks (underwriters) use their reputation in a repeated game setting (they do this over and over with different firms) to convince investors of the firm’s type For firm commitment offerings, fees come from the following sources Gross spread: price sold to market – price bought from firm. Typically this is 7% of gross proceeds Underpricing = closing price at end of first trading day – the offer price. Underwriters generally under price the offer by as much as 15%, and much more in certain cases. Slide 44: Syndicates in IPOs: Syndicate = A group of investment banks that work together to sell new security offerings to investors. The underwriting syndicate is led by the lead underwriter. The issuing firm may decide that several underwriters are needed to underwrite the equity The size of the syndicate varies (5 underwriters for ICBC, 28 for Google) The primary underwriter is designated the “lead” underwriter The lead underwriter allocates portions of the offering to syndicate members Syndicate members may be lead underwriters on other offerings, so the relationships are frequently based on equal stature in terms of mutual respect Slide 45: Compensation Underwriting spread = difference between price to the public and the price received by the issuer. The spread is determined by negotiation. The spread reflects the effort and the risk taken by the underwriter (firm commitment). Compensation includes mainly: Manager’s fee (20%) Syndicate allowance (20%) Selling concession (60%, buying stock at a discount and then reselling it to the public at a higher price) Potential functions of underwriting syndicates : Risk of underwriting large offers There is a risk that the offering price is too high, and underwriters not being able to sell the shares For firm commitment contract: A single underwriter risks losing money if the price is difficult to determine. More underwriters means lower risk for each underwriter. However, large size IB can bear risk, so why having syndicates? Potential functions of underwriting syndicates Slide 47: Information production - Underwriters have to price a stock with no trading history - Syndicates help estimate the demand for the IPO thanks to different clientele or geographic origin (e.g. ICBC had 2 Chinese, 2 European and 1 US underwriters) Channels of information: Underwriters may inform directly the lead underwriter about market interest. This is however not in their best interest because they compete with the other underwriters. Underwriters prefer disclosing information directly to the issuer. This improves their reputation. Underpricing of IPOs:What is underpricing?: Underpricing: the first trading day closing price typically exceeds the price at which the shares were offered to the investors. Underpricing of IPOs:What is underpricing? t=0 Share price Offer price International evidence: The first-day premium that investors experience is positive in virtually every country. Underpricing averages more than 15% in industrialized countries Underpricing is much higher in emerging economies. The difference between industrialized and emerging countries is due to (i) valuation uncertainty and (ii) regulation (e.g. Taiwan, Malaysia) International evidence What explains underpricing?: Principal-agent theory: Underwriters are faced with a trade-off. On the one hand, underpricing lowers both the risk of failing to place equity, and their effort in marketing the issue. On the other hand, the fee is proportional to the price. If the success of an IPO is important enough, the IB chooses underpricing Issuers, because they delegate the pricing decision to the underwriter, cannot prevent opportunistic behavior What explains underpricing?: Principal-agent theory Stock flipping: 1)When an IPO is underpriced, some investors who do not value the company high are allocated shares, while some valuing the company higher do not receive any shares. 2)This demand of the latter causes the price to rise and the former sell their shares, hence trading activity will be high. 3)The trading activity generates income for market making underwriters. Stock flipping What are the costs of IPOs for IB?: Risk of firm commitment underwriting: not selling all shares at a designated price and suffering a loss. Costs of analyzing and administrating the issue. Analyst coverage: often included in the underwriting contract. High effort to maintain reputation. Compensation paid to syndicate members. Price support: Aftermarket support of the stock to ensure a minimum of liquidity and to prevent a price slump due to some investors selling their shares. What are the costs of IPOs for IB? What determines market shares?: First-day return - Underpricing imposes costs on the issuers by leaving money on the table. - Overpricing is also not beneficial for the IB. Their role is to certify the value of the shares for investors. If there is overpricing, investors will be reluctant to buy shares underwritten by this investment bank. Underwriting spread - Issuers may choose lower fee underwriters. - On the other hand, reputable banks may charge higher fees. Reputation is volatile and high fees signal that the bank does not fear losing its reputation . What determines market shares? Slide 54: Long-run performance: Investors will be reluctant to buy shares from IB offering shares of companies with no positive prospects. Analyst reputation: - High level analyst coverage is central for the success of an IPO. - The presence of a top analysts certifies the IPO value to investors. Industry specialization: - Experience is central for evaluating companies, and specialization can increase the precision of pricing due to information spillovers from other equity issuances. - For well established IB, however, specialization reduces the amount of business that can be acquired. Slide 55: Lager banks Small banks Specialization Business size limited Attract first customers No specialization More potential clients, less risk Difficult to attract first customers Investment banking activities: Investment banking activities Underwriting Acting as an intermediary between an issuer of securities and the investing public Facilitating mergers and other corporate reorganizations Broker for institutional clients. What is merchant banking?: What is merchant banking? The term "merchant bank" came back into vogue in the late 1970s with the nascent private equity business of firms like Kohlberg, Kravis & Roberts (KKR). Merchant banking in its modern context refers to using one's own equity (often accompanied by external debt financing) in a private transaction, as opposed to underwriting a public issue. Gun jumping: Gun jumping The illegal practice of soliciting orders to buy a new issue before registration of the initial public offering (IPO) has been approved by the Securities and Exchange Commission (SEC). Trading securities on the basis of information that has not yet been disclosed to the public. The theory behind gun jumping is that investors should make decisions based on the full disclosure in the prospectus, not on the information disseminated by the company that has not been approved by the SEC. If a company is found guilty of "jumping the gun", the IPO will be delayed. Prospectus: Prospectus A formal legal document, which is required by and filed with the Securities and Exchange Commission, that provides details about an investment offering for sale to the public. A prospectus should contain the facts that an investor needs to make an informed investment decision. Also known as an "offer document". There are two types of prospectuses for stocks and bonds: preliminary and final . The preliminary prospectus is the first offering document provided by a securities issuer and includes most of the details of the business and transaction in question. Some lettering on the front cover is printed in red, which results in the use of the nickname "red herring" for this document. A passage in red states the company is not attempting to sell its shares before the registration is approved by the SEC. There is no price or issue size stated in the red herring. Slide 60: The Red Herring is sometimes updated several times before being called the final prospectus . The final prospectus is printed after the deal has been made effective and can be offered for sale, and supersedes the preliminary prospectus. It contains such details as the exact number of shares/certificates issued and the precise offering price. In the case of mutual funds, which, apart from their initial share offering, continuously offer shares for sale to the public, the prospectus used is a final prospectus. A fund prospectus contains details on its objectives, investment strategies, risks, performance, distribution policy, fees and expenses, and fund management. Underwriting: Underwriting The process by which investment bankers raise investment capital from investors on behalf of corporations and governments that are issuing securities (both equity and debt). The word "underwriter" came from the practice of having each risk-taker write his or her name under the total amount of risk that he or she was willing to accept at a specified premium. In a way, this is still true today. New issues are usually brought to market by an underwriting syndicate in which each firm takes the responsibility (and risk) of selling its specific allotment. Greenshoe: Greenshoe A provision contained in an underwriting agreement that gives the underwriter the right to sell investors more shares than originally planned by the issuer. Legally referred to as an over-allotment option. Greenshoe options typically allow underwriters to sell up to 15% more shares than the original number set by the issuer, if demand conditions warrant such action. The Green Shoe Company was the first to issue this type of option. IPO Lock up: IPO Lock up A contractual caveat referring to a period of time after a company has initially gone public, usually between 90 to 180 days. During these initial days of trading, company insiders or those holding majority stakes in the company cannot sell any of their shares. An IPO lock-up is also done so that the market is not flooded with too much supply of a company's stock too quickly. A single large shareholder trying to unload all of his holdings in the first week of trading could send the stock downward, to the detriment of all shareholders. Empirical evidence suggests that after the end of the lock-up period, stock prices experience a permanent drop of about 1-3%. Book building: Book building Book building is the process by which an underwriter attempts to determine at what price to offer an IPO based on demand from institutional investors. An underwriter "builds a book" by accepting orders from fund managers indicating the number of shares they desire and the price they are willing to pay. Book runner is the managing or lead underwriter who maintains the books of securities sold for a new issue. In other words, this person is the underwriter who "runs" the books. Often the book runner is given credit for the total size of the deal. Buy and sell side : The investment banks represent the " sell side " (as they are mainly in the business of selling securities to investors), while mutual funds, advisors and others make up the " buy side ". Key to a Successful IPO: Key to a Successful IPO IPO preparation and structuring Flexible but focused bank syndicate structure Cornerstone investors Widest distribution and deepest pool of money Appropriate valuation metrics Appropriate window of issuance 7 Strong and appealing equity story The Securities Industry: The Securities Industry Investment Banking Sales & Trading Equity/Fixed Income Research Investment Management Investment Banking: Overview: Investment Banking: Overview Deal primarily with raising capital, corporate mergers and acquisitions Typically offer the following services to companies, institutions, and individuals: Capital raising Advisory (Mergers and Acquisitions) Merchant banking Investment Banking: Investment Banking Investment Banking - process of raising money for corporate clients and public institutions in the form of equity, debt, convertible, or other derivative securities through either a public issue or private placement. Mergers and Acquisitions - the process of acting as an advisor to a company that is in transactions involving the purchase or sale of a whole company, a division, or certain assets. Investment Banking: Investment Banking Merchant Banking - the process where the investment bank acts as a principal in a transaction, either by buying or selling a stake in an M&A transaction or by purchasing newly issued securities of a firm. Advisory/Financial Consulting . This area is linked to all of the  above. Advisory and consulting includes capital structure analysis, comparable analysis, industry research, and various forms of fairness opinions. Investment Banking: Investment Banking requires the following qualities: Analytical skills and detail orientation Strong work ethic and a willingness to work long hours (and weekends) Comfort working with numbers and computers Client management skills Strong leadership and teamwork skills Investment Banking Investment Banking: Key players: Investment Banking: Key players Sales & Trading: Sales & Trading The bank’s distribution arm. Responsible for selling and making a market of all financial products developed by the investment banking department and on the secondary market. On an institutional level,  customers include pension, mutual, and hedge funds, insurance companies, and high-net-worth individuals. If you are analytical and have strong people skills, sales is for you. If you live for non-stop action and can handle multiple tasks at once without leaving the seat of your chair, trading is for you. Sales & Trading: Sales & Trading Sales positions require: Sales professionals develop strong relationships with institutional investors (buy side) and serve as quarterback for the firm’s bankers and Research Analysts for their institutional clients. Client management skills Ability to “close” a deal Someone who is driven to achieve Someone with good product/industry/economy knowledge Sales & Trading: Sales & Trading Trading positions require the following qualities: Traders take positions and make markets in stocks the firm may cover. They not only advise salespeople, clients, and research analysts on individual stocks and market activity, but they also manage the firm’s risk vs. the market. Quantitatively adept Ability to make quick decisions Someone who likes a “daily report card” Research (Buy Side/Sell Side): Research (Buy Side/Sell Side) Research incorporates quantitative research, market strategy research, economic research, and individual company research. Sell-side research is typically divided by economic sector or industry.  The analyst is normally charged with knowing a small group of stocks intimately. Sell-side analysts normally work closely with buy-side analysts and portfolio managers, as well as the investment banking and sales & trading departments. Research: Research Research positions (buy-side and sell-side) require: Strong analytical skills and financial modeling skills Strong writing and presentation skills Strong economic and industry understanding Confidence in your analysis Private Client Services / Private Wealth Management / Private Banking: Private Client Services / Private Wealth Management / Private Banking The bank’s investment management division for high-net-worth individuals. Investment Management Representatives are typically generalists and offer all the services of the firm (equities, fixed income, derivatives, private equity, asset management) to high-net-worth clients. The Investment Management  function is more client-service oriented than either research or Asset management.  The job requires frequent social interaction in order to establish a book of business. Those who choose Investment Management may work independently, but often they join a small group with an already-established clientele. If you are entrepreneurial and enjoy working with sophisticated high-net-worth investors, then Investment Management is for you. If you do not like sales, entertaining, and making "cold" calls, then you should look elsewhere . Investment Management: Overview: Investment Management: Overview Customer of sell side. Assets are provided by individuals (through mutual funds) or institutions (through large separate accounts). Their focus is buying and selling securities based on the fund or portfolio’s objective and investment style, and they are rarely involved in raising capital for portfolios. Portfolio management jobs are in high demand. Managers of investment accounts are called Portfolio Managers. Nearly all portfolio managers begin as a buy-side or sell-side research analyst.  In many cases, the role of a buy-side analyst and a portfolio manager is indistinguishable. Private Client Services / Private Wealth Management / Investment Management: Investment positions require these qualities: Strong analytical skills and financial modeling skills Strong writing and presentation skills Strong economic and industry understanding Client management skills Private Client Services / Private Wealth Management / Investment Management Investment Management: Key players: Investment Management: Key players Finance Overview: Finance Overview Investment Banking Sales & Trading Equity/Fixed Income Research Investment Management Commercial Banking Corporate Finance Commercial Banking: Overview: Commercial Banking: Overview An institution which accepts deposits, makes business loans, and offers related services. Commercial banks also allow for a variety of deposit accounts, such as checking, savings, and time deposit. Commercial Banking: Overview: Commercial Banking: Overview While commercial banks offer services to individuals, they are primarily concerned with receiving deposits and lending to businesses. -investorwords.com Positions available in various areas: Credit analyst  Mortgage banker Loan officer Branch manager Trust officer Commercial Banking: Overview: Commercial Banking: Overview Commercial Banking positions require: Quantitative and Credit Analysis skills Broad business understanding and people skills Sales and marketing skills – ability to “cross-sell” Ability to work cross-departmentally Accounting and writing skills Strong work ethic Curiosity Commercial Banking: Key players: Commercial Banking: Key players Finance Industry Overview: Finance Industry Overview Investment Banking Sales & Trading Equity/Fixed Income Research Investment Management Commercial Banking Corporate Finance Corporate Finance: Overview: Corporate Finance: Overview Financial function within a corporation (e.g., Corporate, Group or Division). Most positions require frequent interaction with other functional areas such as marketing and operations. Reports up to the Chief Financial Officer Corporate Finance: Overview: Corporate Finance: Overview Positions available in various areas: Treasury Financial Planning & Accounting Strategic Planning Corporate Development Finance Product Development Finance Tax Corporate Finance: Overview: Corporate Finance: Overview Corporate Finance positions require: Strong analytical skills Ability to work cross-departmentally and to motivate those who do not necessarily report to you. The ability to provide financial insight into business decisions and develop pro-forma income statements, balance sheets and cash flow statements Corporate Finance: Overview: Corporate Finance: Overview Corporate Finance positions require: Strong verbal and written communication skills, as well as excellent organization and multi-tasking skills Proficiency in spreadsheet, database, word processing and presentation applications software An understanding of financial concepts, such as Net Present Value, Return on Investment and Discounted Cash flow Finance Industry Summary: Finance Industry Summary Investment Banking Sales & Trading Equity/Fixed Income Research Investment Management Commercial Banking Corporate Finance Finance Industry Summary: Finance Industry Summary ALL Finance positions require: Strong analytical skills Ability to work cross-departmentally and to motivate those who do not necessarily report to you. Strong verbal and written communication skills, as well as excellent organization and multitasking skills Proficiency in spreadsheet, database, word processing and presentation applications software Cash flow projections Jobs in the Investments Industry: Jobs in the Investments Industry I. Investment Banking Investment banking, Asset Management, Sales and Trading, Research II. Financial Planning Investment advising, Insurance, and Estate planning III. Corporate Finance Pension Fund Administration and Management IV. Financial Consulting Pension Fund Consulting Purpose of Investment Banking: Purpose of Investment Banking An intermediary between the capital markets (investors) and corporations (borrowers) Offers strategic advice and financial analysis on Mergers & Acquisitions, Divestitures, and Capital Structure Offers Equity and Fixed Income Underwriting (e.g.. IPO’s, High Yield Offerings) Provides asset management advice to high net worth individuals and institutions Provides Sales and Trading of Equity (Stocks), Fixed Income Securities (Bonds), Derivatives (Options). Offers research and advice on publicly listed stocks and bonds to institutional and individual investors Structure of Investment Banks : Structure of Investment Banks Major investment banking divisions include: Investment Banking Intermediary between the capital markets Advice and analysis on M&A and Capital Structure Equity and Fixed Income Underwriting Asset Management Provide asset management services to investors and institutions Sales and Trading Sales and Trading of Equity (Stocks), Fixed Income Securities (Bonds), Derivatives (Options). Research Provide research on public stocks and bonds Structure of Investment Banks (continued): Structure of Investment Banks (continued) Investment Bank I-Banking Division (IBD) Research Sales & Trading Asset Management Private Client Services Work with High Net Worth Individuals Industry Groups Corporate Finance Product Groups M&A High Yield Debt Capital Markets Equity Capital Markets Buy and Sell Financial Securities and Derivatives Analyze all Public information in order to give advice to investors and sales and trading group Structure of Investment Banks (continued): 97 Structure of Investment Banks (continued) Investment Bank I-Banking Division Research Sales & Trading Asset Management Product Group Industry Group (Corp Finance) Manage funds for institutions and individuals Economic Derivatives Fixed Income Equity Fixed Income Equity Equity Capital Markets Debt Capital Markets High Yield Debt M & A Consumer Products Technology Telecommunications Real Estate Utilities Health Care Retail Consumer Products Technology Telecommunications Real Estate Utilities Health Care Retail Private Client Services What is the Interaction between Investment Banking Divisions?: What is the Interaction between Investment Banking Divisions? Investment banking meets the needs of different clientele Companies wanting to list equity/debt Individuals/institutions wanting unbiased research for investing Strategic and asset management advice for companies/individuals How should it be structured to maintain no semblance of “conflict of interest”? A “Chinese wall” was proposed and instituted Certain divisions are “inside” and others “outside” the wall Interaction Between Divisions (continued): Interaction Between Divisions (continued) “Inside the Wall” “ Outside the Wall” IBD Corporate Finance Sales & Trading, Research, and Asset Management Corporate Finance Corporate Finance MERGERS & ACQUISITIONS: MERGERS & ACQUISITIONS Types of mergers Merger analysis Role of investment bankers LBOs, divestitures, and holding companies What are some valid economicjustifications for mergers?: What are some valid economicjustifications for mergers? Synergy: Value of the whole exceeds sum of the parts. Could arise from: Operating economies Financial economies Differential management efficiency Taxes (use accumulated losses) Break-up value: Assets would be more valuable if broken up and sold to other companies. What are some questionable reasons for mergers? Diversification Purchase of assets at below replacement cost Acquire other firms to increase size, thus making it more difficult to be acquired Differentiate between hostile and friendly mergers: Differentiate between hostile and friendly mergers Friendly merger: The merger is supported by the managements of both firms. Reasons why alliances can make more sense than acquisitions Access to new markets and technologies Multiple parties share risks and expenses Rivals can often work together harmoniously Antitrust laws can shelter cooperative R&D activities Reason for APV: Reason for APV Often in a merger the capital structure changes rapidly over the first several years. This causes the WACC to change from year to year. It is hard to incorporate year-to-year changes in WACC in the corporate valuation model. The APV Model Value of firm if it had no debt + Value of tax savings due to debt = Value of operations First term is called the unlevered value of the firm . The second term is called the value of the interest tax shield . APV Model: 104 APV Model Unlevered value of firm = PV of FCFs discounted at unlevered cost of equity, r sU . Value of interest tax shield = PV of interest tax savings at unlevered cost of equity. Interest tax savings = Interest(tax rate) = TS t . Note to APV APV is the best model to use when the capital structure is changing. The Corporate Valuation model is easier than APV to use when the capital structure is constant. Steps in APV Valuation: Steps in APV Valuation Project FCF t ,TS t until company is at its target capital structure for one year and is expected to grow at a constant rate thereafter. Project horizon growth rate. Calculate the unlevered cost of equity, r sU . Calculate horizon value of tax shields using constant growth formula and TS N . Calculate horizon value of unlevered firm using constant growth formula and FCF N . Steps in APV Valuation: Steps in APV Valuation Calculate unlevered value of firm as PV of unlevered horizon value and FCF t Calculate value of tax shields as PV of tax shield horizon value and TS t Calculate V ops as sum of unlevered value and tax shield value. Steps in APV Valuation Value of operations + Value of any non-operating assets = Total value of the firm - Value of debt (pre-merger) = Value of equity Do mergers really create value?: Do mergers really create value? According to empirical evidence, acquisitions do create value as a result of economies of scale, other synergies, and/or better management. Shareholders of target firms reap most of the benefits, that is, the final price is close to full value. Target management can always say no. Competing bidders often push up prices. What are some merger-related activities of investment bankers?: What are some merger-related activities of investment bankers? Identifying targets Arranging mergers Developing defensive tactics Establishing a fair value Financing mergers Arbitrage operations What is a leveraged buyout (LB0)?: What is a leveraged buyout (LB0)? In an LBO, a small group of investors, normally including management, buys all of the publicly held stock, and hence takes the firm private. Purchase often financed with debt. After operating privately for a number of years, investors take the firm public to “cash out.” What are the advantages and disadvantages of going private?: What are the advantages and disadvantages of going private? Advantages: Administrative cost savings Increased managerial incentives Increased managerial flexibility Increased shareholder participation Disadvantages: Limited access to equity capital No way to capture return on investment What are the major types of divestitures?: What are the major types of divestitures? Sale of an entire subsidiary to another firm. Spinning off a corporate subsidiary by giving the stock to existing shareholders. Carving out a corporate subsidiary by selling a minority interest. Outright liquidation of assets. What motivates firms to divest assets?: What motivates firms to divest assets? Subsidiary worth more to buyer than when operated by current owner. To settle antitrust issues. Subsidiary’s value increased if it operates independently. To change strategic direction. To shed money losers. To get needed cash when distressed. What are holding companies?: What are holding companies? A holding company is a corporation formed for the sole purpose of owning the stocks of other companies. In a typical holding company, the subsidiary companies issue their own debt, but their equity is held by the holding company, which, in turn, sells stock to individual investors. Advantages and Disadvantages of Holding Companies: Advantages and Disadvantages of Holding Companies Advantages: Control with fractional ownership. Isolation of risks. Disadvantages: Partial multiple taxation. Ease of enforced dissolution.

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