Floatation

As part of it corporate finance strategy, a company may wish to become listed on a stock exchange to increase its pool of potential investors. Only by being listed can a company offer its shares to the public.

It may start with a quotation on a small firm stock market, such as the Alternative Investment Market (AIM) in the UK, followed by a full listing.

Methods

The possible methods of obtaining a stock exchange listing in the UK are:

Public offer

A public offer is an invitation to apply for shares in a company based upon information contained in a prospectus, either at a fixed price or by tender.

Placing

A placing may be used for smaller issues of shares (up to $15 million in value). The bank advising the company selects institutional investors to whom the shares are 'placed' or sold. If the general public wish to acquire shares, they must buy them from the institutions

Introduction

Introduction is a process that allows a company to join a stock exchange without raising capital. A company does not issue any fresh shares; it merely introduces its existing shares in the market.

It is used where the public already holds at least 25% of the shares in the company (the minimum requirement for a stock exchange listing). The shares become listed and members of the public can buy shares from the existing shareholders.

Stock Exchange listing requirements

If a company decides to raise equity finance from the local capital market, it must comply with the listing requirements of the capital market. For illustration, the listing requirements for the London Stock Exchange are given below:

Track record requirements

The company must be able to provide a revenue earnings record for at least 75% of its business for the previous 3 years. Also, any significant acquisitions in the 3 years before flotation must be disclosed.

Market capitalisation

The shares must be worth at least £700,000 at the time of listing.

Shares in public hands

At least 25% of the shares must be in public hands.

Future prospects

The company must show that it has sufficient working capital for its current needs and for the next 12 months. More generally, a description of future plans and prospects must be given.

Audited historical financial information

This must be provided for the last 3 full years, and any published later interim period.

Corporate governance

There msut be adequate corporate governance. In particular, the Chairman and Chief Executive roles must be split, and half the Board should comprise non-executive directors. There must be an independent audit committee, remuneration committee and nomination committee. The company must provide evidence of a high standard of financial controls and accounting systems.

Acceptable jurisdiction and accounting standards

The company must be properly incorporated and must use IFRS and equivalent accounting standards.

Other considerations

A sponsor / underwriter will need to make sure that the company has established procedures which allow it to comply with the listing and disclosure rules.

Institutional advisers on new share issues

As well as requiring the assistance of accountants in preparing the prospectus, new share issues may require the services of an issuing house. An issuing house is an investment bank specialising in new issue of shares.

Issuing houses

A company wishing to raise capital by offer for sale would first get in touch with one of the issuing houses which specialise in this kind of business.

In some cases, the issuing house earns a fee by organising public issues. In others, it purchases outright a block of shares from a company and then makes them an 'offer for sale' to the public on terms designed to bring in a profit to the issuing house.

There are between 50 and 60 members of the Issuing House Association, including all the important merchant banks. The fact that an issue is launched by one of these banks or other houses of high reputation is, in itself, a factor contributing to the chance of success of such a venture.

Investment banks

Investment banks also perform the functions of underwriting, marketing and pricing new issues.

• Underwriting: large share issues are usually underwritten which adds to the cost of raising finance but reduces the risk. An underwriter is someone (usually an investment institution) who is prepared to purchase shares in a share issue that other investors do not buy. For example, suppose that XYZ Co is issuing 50 million new shares at $2.50 each. If the issue is underwritten, the investment bank assisting the company with the issue will find one or more institutions that are prepared to buy up to a given quantity of the shares, if no one else wants them. In return for underwriting a portion of the new issue, an underwriter is paid a commission. If there are just one or two underwriters for an issue, the underwriters might offload some of their risk by getting other institutions to sub-underwrite the issue. Sub-underwriters are also paid a commission.

• Marketing: the marketing and selling of a new issue is a business activity in its own right. The investment bank provides the expertise.
• Pricing: one of the most difficult decisions in making a new issue is that it should be priced correctly. If the price is too low, the issue will be over-subscribed, and existing shareholders will have had their holdings diluted more than is necessary. If the price is too high and the issue fails, the underwriters are left to subscribe to the shares. This will adversely affect the reputation of the issuing house and the company. Correct pricing is important, and the investment bank will be able to offer advice based on experience and expertise. One way round the issue price problem is an issue by tender.

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