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Unformatted text preview: ent that describes the
key aspects of the issue, the
issuer, and its management and
A preliminary prospectus made
available to prospective
investors during the waiting
period between the registration
statement’s filing with the SEC
and its approval. When a firm wishes to sell its stock in the primary market, it has three alternatives. It can make (1) a public offering, in which it offers its shares for sale to the
general public; (2) a rights offering, in which new shares are sold to existing
stockholders; or (3) a private placement, in which the firm sells new securities
directly to an investor or group of investors. Here we focus on public offerings,
particularly the initial public offering (IPO), which is the first public sale of a
firm’s stock. IPOs are typically made by small, rapidly growing companies that
either require additional capital to continue expanding or have met a milestone
for going public that was established in a contract signed earlier in order to
obtain VC funding.
To go public, the firm must first obtain the approval of its current shareholders, the investors who own its privately issued stock. Next, the company’s auditors and lawyers must certify that all documents for the company are legitimate.
The company then finds an investment bank willing to underwrite the offering.
This underwriter is responsible for promoting the stock and facilitating the sale of
the company’s IPO shares. The underwriter often brings in other investment banking firms as participants. We’ll discuss the role of the investment banker in more
detail in the next section.
The company files a registration statement with the SEC. One portion of the
registration statement is called the prospectus. It describes the key aspects of the
issue, the issuer, and its management and financial position. During the waiting
period between the statement’s filing and its approval, prospective investors can
receive a preliminary prospectus. This preliminary version is called a red herring,
because a notice printed in red on the front cover indicates the tentative nature of
the offer. The cover of the preliminary prospectus describing the 2002 stock issue
of Ribapharm, Inc. is shown in Figure 7.1. Note the red herring printed vertically
on its left edge.
After the SEC approves the registration statement, the investment community
can begin analyzing the company’s prospects. However, from the time it files until
at least one month after the IPO is complete, the company must observe a quiet
period, during which there are restrictions on what company officials may say CHAPTER 7 FIGURE 7.1 Stock Valuation 317 Cover of a Preliminary Prospectus for a Stock Issue
Some of the key factors related to the 2002 common stock issue by
Ribapharm, Inc. are summarized on the cover of the prospectus. The
type printed vertically on the left edge is normally red, which explains its
name “red herring.” (Source: Ribapharm, Inc., March 21, 2002, p. 1.) about the company. The purpose of the quiet period is to make sure that all potential investors have access to the same information about the company—th...
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