Question 1

Professor Jay Ritter found best-efforts offerings are:

Accepted Answer

Best-efforts offerings are most commonly used with small IPO issues because these offerings are less certain to sell out completely, so the underwriter cannot guarantee a fixed amount of proceeds to the issuer. With a best-efforts offering, the underwriter tries to sell as many shares as possible, but is not obligated to purchase any unsold shares.

Question 2

The diagonal listing of investment bankers on tombstone advertisements reflects their ______ relative to the other investment bankers listed below.

Accepted Answer

The diagonal listing of investment bankers on tombstone advertisements is often used to indicate the top performers or leaders within the group. This reflects their prestige relative to the other investment bankers listed below.

Question 3

A shareholder who has rights is:

Accepted Answer

A shareholder who has rights can choose to exercise those rights, such as purchasing additional shares at a discounted price or voting on certain company issues, or they can sell those rights in the market to another buyer. Therefore, they have the option to either exercise or sell their rights, making choice C the correct answer. Choice A and B are too definitive in their approach, as exercising or selling rights may not always be the optimal choice. Choice D is incorrect as ownership remains the same, just with the added option to exercise or sell rights.

Question 4

The key difference between a negotiated offer and a competitive offer is that:

Accepted Answer

In a competitive offer, the issuing firm invites multiple underwriters to bid, allowing it to choose the highest bidder. In a negotiated offer, the firm works with a single investment banker to set the terms.

Question 5

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 the debt issuance expenses as equity issues involve underwriting commissions, legal fees, accounting fees, and other expenses.

Question 6

Venture capitalists are

Accepted Answer

Venture capitalists raise funds from outside investors, actively oversee and advise the companies they invest in, and typically aim to exit the investment after a certain period rather than owning it indefinitely.

Question 7

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 a firm commitment underwriting, the underwriter guarantees to buy the entire issue at a set price, and then resells it to the public. The underwriter assumes the risk of not being able to sell the securities at a profit. In a best efforts underwriting, the underwriter does not commit to buying the securities but instead agrees to use their best efforts to sell the securities at the best possible price. If they cannot sell all the securities, they return the unsold securities to the issuer. Therefore, the first blank is filled with the best efforts method, and the second blank is filled with the firm commitment method.

Question 8

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

Accepted Answer

The six components that make up the total costs of new issues are the spread, other direct expenses such as filing fees, indirect expenses such as management time, abnormal returns, underpricing, and the Green Shoe option. Choice C accurately lists all six components. The other choices either do not include all six components or include irrelevant options such as "economies of scale" or "discount."

Question 9

Underpricing can possibly be explained by:

Accepted Answer

Underpricing can be explained by oversubscription and strong demand, as high demand can lead to initial prices being set lower to ensure full subscription and market interest.

Question 10

To determine the value of a rights offering,the stockholder needs to know the following two pieces of information in addition to the current stock price:

Accepted Answer

To determine the value of a rights offering, the stockholder needs to know the subscription price (the price at which they can exercise their rights to purchase new shares) and the number of rights needed to acquire a new share (how many rights they need to exercise to receive one new share of stock). The amount of new equity raised and the standby fee may be relevant information, but they do not directly impact the value of the rights offering to the current stockholder. The detachment date is also important but is not sufficient on its own to determine the value of the rights offering.

Question 11

For smaller IPOs,direct expenses as a percentage of total proceeds is _______.

Accepted Answer

For smaller IPOs, the direct expenses incurred are relatively higher as a percentage of total proceeds compared to larger IPOs due to several reasons such as higher underwriting fees, legal expenses, and other professional advisor fees.

Question 12

Empirical evidence suggests that new equity issues are generally:

Accepted Answer

Empirical evidence suggests that new equity issues are underpriced, in part, to counteract the winner's curse. The winner's curse refers to the tendency for winning bidders in an auction to overpay for the asset being auctioned, due to a lack of information asymmetry or irrational exuberance. In the context of new equity issues, the winner's curse can lead to overpricing of the shares, which can lead to poor returns for investors. To mitigate this risk, underpricing is used to attract buyers and offset the potential for overpricing.

Question 13

Debt capacity is often given as a reason for the value of the stock falling when equity is issued. The reason for this is:

Accepted Answer

When the management raises equity capital, it can be a signal that the probability of default has risen, and the debt capacity of the firm is limited. This can cause investors to perceive increased risk, leading to a decrease in the value of the stock. Options A and B are not accurate reasons for the stock value falling when equity is issued, and option D includes option A, which is not supported as a valid reason. Option E does not provide any answer.

Question 14

The reputational capital of investment bankers is based on their roles as intermediaries with more in-depth knowledge of the issuer. Investment bankers maintain their reputation by:

Accepted Answer

Investment bankers maintain their reputation by certifying the issue, monitoring the issuing firm's management and performance, and pricing issues fairly. Therefore, all of these options are correct.

Question 15

Assuming everything else is constant,when a stock goes ex-rights its price should:

Accepted Answer

When a stock goes ex-rights, it means that the rights offering to purchase additional shares has ended and those who did not exercise their rights will have them expire. This means that existing shareholders who did not participate in the rights offering will have their ownership percentage in the company diluted, leading to a decrease in the value of their shares, hence the price of the stock will decrease.

Question 16

If a shareholder or investor wants to acquire new stock under a rights plant they must:

Accepted Answer

In order to acquire new stock under a rights plan, a shareholder or investor must acquire the correct rights per share desired, then turn the rights and the total subscription price into the subscription agent. Option A is incorrect as it suggests acquiring shares in the market to be eligible for rights, which may not always be the case. Option B is incorrect as there may be additional requirements to fulfill besides paying a registration fee. Option D is incorrect as the company will not send stock automatically without the shareholder or investor submitting the required documents and payment. Option E is unrelated to acquiring new stock under a rights plan.

Question 17

In a typical deal,the venture capitalist will receive at least ______ of the equity of the deal.

Accepted Answer

The answer of In a typical deal,the venture capitalist will...

Question 18

Which of the following statements is true?

Accepted Answer

The subscription price is generally set below the market price of the old stock to entice existing shareholders to exercise their subscription rights and purchase additional shares. Therefore, option A and D are incorrect as they suggest that the subscription price is generally above the old stock price. Option B is also incorrect as the subscription price is usually set above the ex-rights price but below the old stock price. Option E is incorrect as it suggests that the subscription price is generally below the ex-right price, which is not the case.

Question 19

A standby underwriting arrangement provides the:

Accepted Answer

A standby underwriting arrangement provides the company with an alternative avenue of sale to ensure success of the rights offering. In this arrangement, the underwriter agrees to purchase any unsold shares, providing a guarantee of the funds that the company expects to raise. This helps to reduce the risk for the company and ensures that the offering will be successful.

Question 20

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. One potential explanation for this is that the new issue reflects management's view that common stock is currently overvalued, which can be a signal of negative news or lack of confidence in the current market valuation.

Quiz 20: Raising Capital