Question 1

An equity issue sold to the firm's existing stockholders is called:

Accepted Answer

A rights offer is an issuance of new shares to existing shareholders, who are given the right to purchase a specified number of new shares at a discounted price. This type of equity issue is specifically designed for and offered to current stockholders.

Question 2

A group of investment bankers who pool their efforts to underwrite a security are known as a/an:

Accepted Answer

A syndicate is a group of investment bankers who join together to underwrite a security offering. They share the risk and the profits of the underwriting process.

Question 3

The six components that make up the total costs of a new issues are:

Accepted Answer

The spread (the difference between the offering price and the price paid by the underwriter), other direct expenses such as filing fees, and indirect expenses such as management time are common components of new issue costs. Abnormal returns (the difference between the offering price and the market price on the first day of trading) and the Green-Shoe option (an over-allotment option that allows the underwriter to sell additional shares at the offering price) are also included. Underpricing (setting the offering price below the market price) is also a component of new issue costs. However, economies of scale and due diligence costs are not typically considered components of new issue costs.

Question 4

Which of the following is not normally an example of the services offered by investment bankers?

Accepted Answer

Investment bankers do not typically offer checking accounts to corporations. Their services primarily include aiding in the sale of securities, facilitating mergers, and acting as brokers to both individuals and institutional clients.

Question 5

During the OSC waiting period the potential issuing company can issue a preliminary prospectus which contains:

Accepted Answer

The answer of During the OSC waiting period the potential...

Question 6

A firm commitment arrangement with an investment banker occurs when:

Accepted Answer

A firm commitment arrangement with an investment banker occurs when the investment banker buys the securities for less than the offering price and accepts the risk of not being able to sell them. This means that the investment banker is making a firm commitment to purchase the entire issue and is assuming the risk of being unable to sell the securities to investors at a profit.

Question 7

In a best efforts offering the investment banker makes their money primarily by:

Accepted Answer

In a best-efforts offering, the investment banker acts as an agent rather than a principal. They do not buy the securities outright but instead sell them on behalf of the issuer and earn a commission on each share sold. This contrasts with a firm commitment offering, where the investment banker buys the securities from the issuer and earns money primarily through the spread between the purchase price and the selling price.

Question 8

Empirical evidence suggests that upon announcement of a new equity issue, current stock prices generally:

Accepted Answer

Empirical evidence suggests that upon announcement of a new equity issue, current stock prices generally drop. This may be because the new issue reflects management's view that common stock is currently overpriced or there may be dilution of existing shares.

Question 9

Regional Power wants to raise $10 million in new equity. The subscription price is $20. There are currently 3 million shares outstanding, each with 1 right. How many rights are needed to purchase 1 share?

Accepted Answer

The answer of Regional Power wants to raise $10 million...

Question 10

Companies use tombstone advertisements in the financial press to:

Accepted Answer

Tombstone advertisements are used to announce the availability of a new issue of a corporate security. They are typically brief and provide key information about the security being offered, such as the type of security, its size, and its price. They may also include information about the underwriters involved in the offering.

Question 11

Empirical evidence suggests that new equity issues are generally:

Accepted Answer

Empirical evidence suggests that new equity issues are often underpriced, which is known as the winner's curse. This occurs because investment banks try to ensure the success of the IPO by setting the initial price below the expected market price, which can lead to the underpricing. This is supported by numerous studies that show a significant positive return for investors who purchase stocks in the days or weeks after the IPO.

Question 12

The winner's curse is used to describe:

Accepted Answer

The winner's curse refers to the phenomenon where the winning bidder in an auction or the investor who receives a full allocation of IPO shares is likely overpaying relative to the true value of the asset. In the context of IPOs, this often means receiving a full allocation of shares in an undesirable or overpriced issue, leading to poor future returns.

Question 13

Under the _____ method, the underwriter buys the securities for less than the offering price and accepts the risk of not selling the issue, while under the _____ method, the underwriter does not purchase the shares but merely acts as an agent.

Accepted Answer

In the firm commitment method, the underwriter buys the securities for less than the offering price and bears the risk of not selling the issue. In the best efforts method, the underwriter does not purchase the shares but merely acts as an agent. Therefore, option B is the correct answer. Option A, C, D, and E are incorrect because they do not accurately describe the differences between the firm commitment and best efforts methods.

Question 14

A rights offering is:

Accepted Answer

A rights offering is a way for a company to raise capital by issuing additional shares of stock to its existing shareholders. Existing shareholders are given the option to purchase a certain number of new shares at a discounted price. This is different from an option or proxy, as it is a direct offering to existing shareholders, and not a public market claim that can be traded on an exchange. It is also not an awarding of special perquisites to management.

Question 15

In comparison to debt issuance expenses the total direct costs of equity issues are:

Accepted Answer

The total direct costs of equity issues are considerably greater than those of debt issues due to the higher risk of market movement and price changes associated with equity.

Question 16

Potential investors learn of the information concerning the firm and its new issue from the:

Accepted Answer

The prospectus is a document that provides information about a new security issue being offered by a company. It contains key information concerning the company's business, financial statements, risks associated with the investment, and details about the specific security being offered. This document is made available to potential investors and is required by the Securities and Exchange Commission (SEC) before the security can be sold.

Question 17

A new public equity issue from a company with equity previously outstanding is called a/an:

Accepted Answer

A seasoned equity issue is a new public equity issue from a company with equity previously outstanding. An initial public offering (IPO) is the first time a company offers its shares to the public. An unseasoned equity issue refers to shares offered by a company that is new or does not have an established performance record. A private placement is a sale of securities to a small group of investors rather than on a public market, and a syndicate is a group of investment banks that work together to underwrite and sell securities.

Question 18

An equity issue sold directly to the public is called:

Accepted Answer

A general cash offer is when an equity issue is sold directly to the public, without any pre-existing relationship, through an underwriter. This is different from a rights offer which is sold to existing shareholders, a restricted placement which is sold to a small group of investors, and a fully funded sales which is not a recognized term in financial markets. A standard call issue is also not a recognized term.

Question 19

The order of listing of investment bankers on tombstone advertisements reflects their:

Accepted Answer

The order of listing of investment bankers on tombstone advertisements reflects their prestige. The lead underwriter is listed first, followed by the co-managers in order of importance or size of contribution to the deal.

Question 20

Management's first step in any issue of securities to the public is:

Accepted Answer

The first step in any issue of securities to the public involves obtaining approval from the board of directors. This step is crucial as it involves the decision-making body of the company agreeing on the need and terms for issuing new securities.

Quiz 20: Issuing Equity Securities to the Public