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Chapter 10 Stock Offerings and


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Chapter 10 Stock Offerings and

  1. 1. Chapter 10 Stock Offerings and Investor Monitoring Financial Markets and Institutions , 7e, Jeff Madura Copyright ©2006 by South-Western, a division of Thomson Learning. All rights reserved.
  2. 2. Chapter Outline <ul><li>Background on stock </li></ul><ul><li>Initial public offerings </li></ul><ul><li>Secondary stock offerings </li></ul><ul><li>Stock exchanges </li></ul><ul><li>Investor participation in the secondary market </li></ul><ul><li>Monitoring by investors </li></ul><ul><li>The corporate monitoring role </li></ul><ul><li>Globalization of stock markets </li></ul>
  3. 3. Background on Stocks <ul><li>A stock is a certificate representing partial ownership in a corporation </li></ul><ul><li>Stock is issued by firms to obtain long-term funds </li></ul><ul><li>Owners of stock: </li></ul><ul><ul><li>Can benefit from the growth in the value of the firm </li></ul></ul><ul><ul><li>Are susceptible to large losses </li></ul></ul><ul><li>Individuals and financial institutions are common purchasers of stock </li></ul><ul><li>The primary market enables corporations to issue new stock </li></ul><ul><li>The secondary market creates liquidity for investors who invest in stock </li></ul><ul><li>Some corporations distribute earnings to investors in the form of dividends </li></ul>
  4. 4. Background on Stocks (cont’d) <ul><li>Ownership and voting rights </li></ul><ul><ul><li>The owners are permitted to vote on key matters concerning the firm: </li></ul></ul><ul><ul><ul><li>Election of the board of directors </li></ul></ul></ul><ul><ul><ul><li>Authorization to issue new shares </li></ul></ul></ul><ul><ul><ul><li>Approval of amendments to the corporate charter </li></ul></ul></ul><ul><ul><ul><li>Adoption of bylaws </li></ul></ul></ul><ul><ul><li>Voting is often accomplished by proxy </li></ul></ul><ul><ul><li>Management typically receives the majority of the votes and can elect its own candidates as directors </li></ul></ul>
  5. 5. Background on Stocks (cont’d) <ul><li>Preferred stock </li></ul><ul><ul><li>Preferred stock represents an equity interest in a firm that usually does not allow for significant voting rights </li></ul></ul><ul><ul><li>A cumulative provision on most preferred stock prevents dividends from being paid on common stock until all preferred dividends have been paid </li></ul></ul><ul><ul><li>Preferred stock is less risky because dividends on preferred stock can be omitted </li></ul></ul><ul><ul><li>Preferred stock is a less desirable source of funds than bonds because: </li></ul></ul><ul><ul><ul><li>Dividends are not tax deductible </li></ul></ul></ul><ul><ul><ul><li>Investors must be enticed to purchase the preferred stock since dividends do not legally have to be paid </li></ul></ul></ul>
  6. 6. Background on Stocks (cont’d) <ul><li>Issuer participation in stock markets </li></ul><ul><ul><li>The ownership feature attracts many investors who want to have an equity interest but do not necessarily want to manage their own firm </li></ul></ul><ul><ul><li>A firm issuing stock for the first time engages in an IPO </li></ul></ul><ul><ul><li>If a firm issues additional stock after the IPO, it engages in a secondary offering </li></ul></ul>
  7. 7. Initial Public Offerings <ul><li>An IPO is a first-time offering of shares by a specific firm to the public </li></ul><ul><li>Usually, a growing firm first obtains private equity funding from VC firms </li></ul><ul><li>An IPO is used to obtain new funding and to offer VC firms a way to cash in their investment </li></ul><ul><ul><li>Many VC firms sell their shares in the secondary market between 6 and 24 months after the IPO </li></ul></ul>
  8. 8. Initial Public Offerings (cont’d) <ul><li>Process of going public </li></ul><ul><ul><li>An investment banking firm normally serves as the lead underwriter for the IPO </li></ul></ul><ul><ul><li>Developing a prospectus </li></ul></ul><ul><ul><ul><li>The issuing firm develops a prospectus and files it with the SEC </li></ul></ul></ul><ul><ul><ul><li>The prospectus contains detailed information about the firm and includes financial statements and a discussion of risks </li></ul></ul></ul><ul><ul><ul><li>The prospectus is intended to provide investors with the information they need to decide whether to invest in the firm </li></ul></ul></ul><ul><ul><ul><li>Once approved by the SEC, the prospectus is sent to institutional investors </li></ul></ul></ul><ul><ul><ul><li>Underwriters and managers meet with institutional investors in the form of a “road show” </li></ul></ul></ul>
  9. 9. Initial Public Offerings (cont’d) <ul><li>Process of going public (cont’d) </li></ul><ul><ul><li>Pricing </li></ul></ul><ul><ul><ul><li>The offer price is determined by the lead underwriter </li></ul></ul></ul><ul><ul><ul><li>During the road show, the number of shares demanded at various prices is assessed </li></ul></ul></ul><ul><ul><ul><ul><li>Bookbuilding </li></ul></ul></ul></ul><ul><ul><ul><li>In some countries, an auction process is used for IPOs </li></ul></ul></ul><ul><ul><li>Transaction costs </li></ul></ul><ul><ul><ul><li>The issuing firm typically pays 7 percent of the funds raised </li></ul></ul></ul><ul><ul><ul><li>The lead underwriter typically forms a syndicate with other firms who receive a portion of the transaction costs </li></ul></ul></ul>
  10. 10. Initial Public Offerings (cont’d) <ul><li>Underwriter efforts to ensure price stability </li></ul><ul><ul><li>The lead underwriter’s performance can be measured by the movement in the IPO shares following the IPO </li></ul></ul><ul><ul><ul><li>If stocks placed by a securities firm perform poorly, investors may no longer purchase shares underwritten by that firm </li></ul></ul></ul><ul><ul><li>The underwriter may require a lockup provision </li></ul></ul><ul><ul><ul><li>Prevents the original owners from selling shares for a specified period </li></ul></ul></ul><ul><ul><ul><li>Prevents downward pressure </li></ul></ul></ul><ul><ul><ul><li>When the lockup period expires, the share price commonly declines significantly </li></ul></ul></ul>
  11. 11. Initial Public Offerings (cont’d) <ul><li>Timing of IPOs </li></ul><ul><ul><li>IPOs tend to occur more frequently during bullish stock markets </li></ul></ul><ul><ul><ul><li>Prices are typically higher </li></ul></ul></ul><ul><ul><ul><li>In the 2000 – 2001 period, many firms withdrew their IPO plans </li></ul></ul></ul><ul><ul><li>Initial returns of IPOs </li></ul></ul><ul><ul><ul><li>First-day return averaged about 20 percent over the last 30 years </li></ul></ul></ul><ul><ul><ul><li>In 1998, the mean one-day return for Internet stocks was 84 percent </li></ul></ul></ul><ul><ul><ul><li>Most IPO shares are offered to institutional investors </li></ul></ul></ul><ul><ul><ul><li>About 2 percent of IPO shares are offered as allotments to brokerage firms </li></ul></ul></ul>
  12. 12. Initial Public Offerings (cont’d) <ul><li>Abuses in the IPO market </li></ul><ul><ul><li>In 2003, regulators attempted to impose new guidelines that would prevent abuses </li></ul></ul><ul><ul><ul><li>Spinning is the process in which an investment bank allocated IPO shares to executives requiring the help of an investment bank </li></ul></ul></ul><ul><ul><ul><li>Laddering involves increasing the price above the offer price on the first day of issue in response to substantial demand </li></ul></ul></ul><ul><ul><ul><li>Excessive commissions are sometimes charged by brokers when there is substantial demand for the IPO </li></ul></ul></ul>
  13. 13. Initial Public Offerings (cont’d) <ul><li>Long-term performance following IPOs </li></ul><ul><ul><li>IPOs perform poorly on average over a period of a year or longer </li></ul></ul><ul><ul><ul><li>Many IPOs are overpriced at the time of issue </li></ul></ul></ul><ul><ul><ul><li>Investors may be overly optimistic about the firm </li></ul></ul></ul><ul><ul><ul><li>Managers may spend excessively and be less efficient with the firm’s funds than they were before the IPO </li></ul></ul></ul>
  14. 14. Secondary Stock Offerings <ul><li>A secondary stock offering is: </li></ul><ul><ul><li>A new stock offering by a firm whose stock is already publicly traded </li></ul></ul><ul><ul><li>Undertaken to raise more equity to expand operations </li></ul></ul><ul><ul><li>Usually facilitated by a securities firm </li></ul></ul><ul><li>In the late 1990s, the volume of publicly placed stock increased substantially </li></ul><ul><li>From 2000 to 2002, the volume of publicly placed stock declined as a result of the weak economy </li></ul><ul><li>Existing shareholders often have the preemptive right to purchase newly-issued stock </li></ul>
  15. 15. Secondary Stock Offerings (cont’d) <ul><li>Shelf-registration </li></ul><ul><ul><li>A corporation can fulfill SEC requirements up to two years before issuing new securities </li></ul></ul><ul><ul><li>Allows firms quick access to funds </li></ul></ul><ul><ul><li>Potential purchasers must realize that information disclosed in the registration is not continually updated </li></ul></ul>
  16. 16. Stock Exchanges <ul><li>Stock trading between investors occurs on an organized stock exchange or on the over-the-counter (OTC) market </li></ul><ul><li>Organized exchanges </li></ul><ul><ul><li>Includes the NYSE and AMEX </li></ul></ul><ul><ul><li>The NYSE controls 80 percent of the value of all organized exchange transactions </li></ul></ul><ul><ul><ul><li>There are 1,366 seats </li></ul></ul></ul><ul><ul><ul><li>Floor brokers and specialists are members of the NYSE </li></ul></ul></ul>
  17. 17. Stock Exchanges (cont’d) <ul><li>Organized exchanges (cont’d) </li></ul><ul><ul><li>Trading floor </li></ul></ul><ul><ul><ul><li>Consists of trading posts and trading booths </li></ul></ul></ul><ul><ul><ul><li>20 trading posts are maintained by specialists and their clerks </li></ul></ul></ul><ul><ul><ul><li>There are 1,500 trading booths along the perimeter of the floor where brokers obtain orders </li></ul></ul></ul><ul><ul><li>Listing requirements </li></ul></ul><ul><ul><ul><li>NYSE requirements include number of shares outstanding, minimum level of earnings, cash flow, and revenue </li></ul></ul></ul><ul><ul><ul><li>Minimum number of shares ensures adequate liquidity </li></ul></ul></ul><ul><ul><ul><li>Exchanges charge a listing fee, which depends on the size of the firm </li></ul></ul></ul>
  18. 18. Stock Exchanges (cont’d) <ul><li>Over-the-counter market </li></ul><ul><ul><li>Buy and sell orders are completed through a telecommunications network </li></ul></ul><ul><ul><li>Nasdaq </li></ul></ul><ul><ul><ul><li>The Nasdaq is an electronic quotation system that provides immediate price quotations </li></ul></ul></ul><ul><ul><ul><li>Firms must meet requirements on minimum assets, capital, and number of shareholders </li></ul></ul></ul><ul><ul><ul><li>Transaction costs as a percentage of the investment tend to be higher on Nasdaq than on the NYSE </li></ul></ul></ul>
  19. 19. Stock Exchanges (cont’d) <ul><li>Over-the-counter market (cont’d) </li></ul><ul><ul><li>Nasdaq (cont’d) </li></ul></ul><ul><ul><ul><li>Nasdaq components are: </li></ul></ul></ul><ul><ul><ul><ul><li>Nasdaq National Market </li></ul></ul></ul></ul><ul><ul><ul><ul><li>Nasdaq Small Cap Market </li></ul></ul></ul></ul><ul><ul><ul><li>More stocks are listed on Nasdaq than on NYSE </li></ul></ul></ul><ul><ul><ul><li>The market value of stocks listed on Nasdaq is smaller than stocks listed on the NYSE </li></ul></ul></ul>
  20. 20. Stock Exchanges (cont’d) <ul><li>Over-the-counter market (cont’d) </li></ul><ul><ul><li>OTC Bulletin Board </li></ul></ul><ul><ul><ul><li>Lists stocks that have a price below $1 per share (penny stocks) </li></ul></ul></ul><ul><ul><ul><li>More than 3,500 stocks are listed </li></ul></ul></ul><ul><ul><ul><li>Stocks are mostly traded by individual investors </li></ul></ul></ul><ul><ul><li>Pink sheets </li></ul></ul><ul><ul><ul><li>Lists stocks smaller than those listed on the OTC Bulletin Board </li></ul></ul></ul><ul><ul><ul><li>Contains about 20,000 stocks </li></ul></ul></ul><ul><ul><ul><li>Families and officers of the firms commonly control much of the stock </li></ul></ul></ul>
  21. 21. Stock Exchanges (cont’d) <ul><li>Extended trading sessions </li></ul><ul><ul><li>The NYSE, AMEX, and Nasdaq markets all offer extended trading sessions </li></ul></ul><ul><ul><li>Late trading sessions enable investors to buy or sell stocks after the market closes </li></ul></ul><ul><ul><li>An early morning session enables investors to buy or sell stock just before the market opens on the following day </li></ul></ul><ul><ul><li>Total trading volume of widely traded stocks is typically about 5 percent or less of the trading volume during the day </li></ul></ul><ul><ul><li>ECNs also allow for trading at any time </li></ul></ul>
  22. 22. Stock Exchanges (cont’d) <ul><li>Stock quotations provided by exchanges </li></ul><ul><ul><li>The format varies among newspapers, but most provide similar information: </li></ul></ul><ul><ul><ul><li>52-week price range </li></ul></ul></ul><ul><ul><ul><li>Symbol </li></ul></ul></ul><ul><ul><ul><li>Dividend </li></ul></ul></ul><ul><ul><ul><li>Dividend yield </li></ul></ul></ul><ul><ul><ul><li>Price-earnings ratio </li></ul></ul></ul><ul><ul><ul><li>Volume </li></ul></ul></ul><ul><ul><ul><li>Previous day’s price quotations </li></ul></ul></ul>
  23. 23. Computing A Dividend Yield <ul><li>XYZ Corporation annual dividend is $1.02 per share. XYZ’s prevailing stock price is $20. What is the annual dividend yield of XYZ stock? </li></ul>
  24. 24. Stock Exchanges (cont’d) <ul><li>Stock index quotations </li></ul><ul><ul><li>The Dow Jones Industrial Average (DJIA) is a price-weighted average of stock prices of 30 large U.S. firms </li></ul></ul><ul><ul><ul><li>Assigns a higher weight over time to those stocks that experience higher prices </li></ul></ul></ul><ul><ul><ul><li>Does not necessarily serve as an adequate indicators of the overall market </li></ul></ul></ul><ul><ul><li>The Standard and Poor’s (S&P) 500 is a value-weighted index of stock prices of 500 large U.S. firms </li></ul></ul><ul><ul><ul><li>Does not serve as a useful indicator for stock prices of smaller firms </li></ul></ul></ul>
  25. 25. Stock Exchanges (cont’d) <ul><li>Stock index quotations (cont’d) </li></ul><ul><ul><li>Wilshire 5000 Total Market Index </li></ul></ul><ul><ul><ul><li>Created in 1974 to reflect the values of 5,000 U.S. stocks </li></ul></ul></ul><ul><ul><ul><li>Represents the broadest index of the U.S. stock market </li></ul></ul></ul><ul><ul><ul><li>Closely monitored by the Federal Reserve </li></ul></ul></ul><ul><ul><li>New York Stock Exchange Indexes </li></ul></ul><ul><ul><ul><li>The Composite Index represents the average of all stocks traded on the NYSE </li></ul></ul></ul><ul><ul><ul><li>Sector indexes: </li></ul></ul></ul><ul><ul><ul><ul><li>Industrial </li></ul></ul></ul></ul><ul><ul><ul><ul><li>Transportation </li></ul></ul></ul></ul><ul><ul><ul><ul><li>Utility </li></ul></ul></ul></ul><ul><ul><ul><ul><li>Financial </li></ul></ul></ul></ul>
  26. 26. Stock Exchanges (cont’d) <ul><li>Stock index quotations (cont’d) </li></ul><ul><ul><li>Other stock indexes </li></ul></ul><ul><ul><ul><li>AMEX indexes </li></ul></ul></ul><ul><ul><ul><li>Nasdaq indexes </li></ul></ul></ul>
  27. 27. Investor Participation in the Secondary Market <ul><li>The price of a firm’s stock represents the value of the firm per share of stock: </li></ul><ul><ul><li>The stock price by itself does not clearly indicate the firm’s value </li></ul></ul><ul><ul><li>The return on the investment is determined by dividends received and the price of the stock from the time when they purchased the shares until they sell them </li></ul></ul>
  28. 28. Investor Participation in the Secondary Market (cont’d) <ul><li>How investor decisions affect the stock price </li></ul><ul><ul><li>Investors buy or sell shares based on their valuation of the stock relative to the prevailing market price </li></ul></ul><ul><ul><li>Investors arrive at different valuations which means there will be buyers and sellers at a given point in time </li></ul></ul><ul><ul><li>As investors change their valuations of a stock, there is a shift in the demand for and supply of shares and the equilibrium price changes </li></ul></ul>
  29. 29. Investor Participation in the Secondary Market (cont’d) <ul><li>How investor decisions affect the stock price (cont’d) </li></ul><ul><ul><li>Investor reliance on information </li></ul></ul><ul><ul><ul><li>Favorable news increases the demand for and reduces the supply of the security </li></ul></ul></ul><ul><ul><ul><li>Unfavorable news reduces the demand for and increases the supply of the security </li></ul></ul></ul><ul><ul><ul><li>Investors continually respond to new information in their attempt to purchase or sell stocks </li></ul></ul></ul>
  30. 30. Investor Participation in the Secondary Market (cont’d) <ul><li>Types of investors </li></ul><ul><ul><li>Individual investors typically hold more then 50 percent of the total equity in a large corporation </li></ul></ul><ul><ul><ul><li>Ownership is scattered </li></ul></ul></ul><ul><ul><li>Institutional investors have large equity positions in corporations and have more voting power </li></ul></ul><ul><ul><ul><li>Can influence corporate policies through proxy contests </li></ul></ul></ul><ul><ul><ul><li>Insurance companies, pension funds, and stock mutual funds are common purchasers of newly issued stock in the primary market </li></ul></ul></ul><ul><ul><ul><li>The collective sales and purchases of stocks by institutions can significantly affect stock market prices </li></ul></ul></ul>
  31. 31. <ul><li>Invest a large proportion of pension fund contributions in the stock market </li></ul>Pension funds <ul><li>Issue stock </li></ul><ul><li>Invest a large proportion of their premiums in the stock market </li></ul>Insurance companies <ul><li>Issue stock </li></ul><ul><li>Place new issues of stock </li></ul><ul><li>Offer advice to corporations that consider acquiring stock companies </li></ul><ul><li>Execute buy and sell orders </li></ul>Securities firms <ul><li>Use the proceeds from selling shares to invest in stocks </li></ul>Stock mutual funds <ul><li>Issue stock </li></ul>Finance companies <ul><li>Invest in stocks for their investment portfolios </li></ul>Savings banks <ul><li>Issue stock to boost their capital base </li></ul>Stock-owned savings institutions <ul><li>Issue stock </li></ul><ul><li>Manage trust funds </li></ul>Commercial banks Participation in Stock Markets Type of Financial Institution
  32. 32. Monitoring by Investors <ul><li>Managers serve as agents for shareholders to maximize the stock price </li></ul><ul><li>Managers may be tempted to serve their own interests rather than those of investors </li></ul><ul><li>Shareholders monitor their stock’s price movements to assess whether the managers are achieving their goal </li></ul><ul><ul><li>When the stock price declines or does not rise as high as shareholders expected, shareholders may blame the weak performance on the firm’s managers </li></ul></ul>
  33. 33. Monitoring by Investors (cont’d) <ul><li>Accounting irregularities </li></ul><ul><ul><li>To the extent that firms can manipulate financial statements they may be able to hide information from investors </li></ul></ul><ul><ul><ul><li>e.g., Enron, Tyco, and WorldCom </li></ul></ul></ul><ul><ul><li>The auditors hired to audit financial statements allowed them to use unusual accounting methods </li></ul></ul><ul><ul><ul><li>Board members on the audit committee were not always monitoring the audit </li></ul></ul></ul>
  34. 34. Monitoring by Investors (cont’d) <ul><li>The Sarbanes-Oxley Act: </li></ul><ul><ul><li>Was implemented in 2002 to ensure more accurate disclosure of financial information to investors </li></ul></ul><ul><ul><li>Attempts to force accountants of a firm to conform to regular accounting standards </li></ul></ul><ul><ul><li>Attempts to force auditors to take their auditing role seriously </li></ul></ul><ul><ul><li>Prevents a public accounting firm from auditing a client whose CEO, CFO, or other employees are employed by the client firm within one year prior to the audit </li></ul></ul>
  35. 35. Monitoring by Investors (cont’d) <ul><li>The Sarbanes-Oxley Act: </li></ul><ul><ul><li>Requires that only outside board members of a firm be on the firm’s audit committee </li></ul></ul><ul><ul><li>Prevents the members of a firm’s audit committee from receiving consulting or advising fees from the firm </li></ul></ul><ul><ul><li>Requires that the CEO and CFO of firms that are of at least a specified size level to certify that the audited financial statements are accurate </li></ul></ul><ul><ul><li>Specifies major fines or imprisonment for employees who mislead investors or hide evidence </li></ul></ul><ul><ul><li>Allows public accounting firms to offer non-audit consulting services to an audit client only if the client pre-approves those services </li></ul></ul>
  36. 36. Monitoring by Investors (cont’d) <ul><li>Shareholders activism </li></ul><ul><ul><li>Communication with the firm </li></ul></ul><ul><ul><ul><li>Shareholders can communicate their concerns to other investors to place more pressure on managers or its board members </li></ul></ul></ul><ul><ul><ul><li>Institutional investors commonly communicate with high-level corporate managers and offer their concerns </li></ul></ul></ul><ul><ul><ul><ul><li>Institutional Shareholder Serves (ISS) Inc. is a firm that organizes institutional shareholders to push for a common cause </li></ul></ul></ul></ul>
  37. 37. Monitoring by Investors (cont’d) <ul><li>Shareholders activism (cont’d) </li></ul><ul><ul><li>Proxy contest </li></ul></ul><ul><ul><ul><li>Normally considered only if an informal request for a change in the board is ignored </li></ul></ul></ul><ul><ul><ul><li>If dissident shareholders gain enough votes, they can elect one or more directors who share their views </li></ul></ul></ul><ul><ul><ul><li>As a result of a more organized effort, institutional shareholders are more influential on management decisions </li></ul></ul></ul>
  38. 38. Monitoring by Investors (cont’d) <ul><li>Shareholders activism (cont’d) </li></ul><ul><ul><li>Shareholder lawsuits </li></ul></ul><ul><ul><ul><li>Investors may sue the board if they believe that the directors are not fulfilling their responsibilities to shareholders </li></ul></ul></ul><ul><ul><ul><li>Lawsuits are often filed when corporations prevent takeovers, pursue acquisitions, or make other restructuring decisions that shareholders believe will reduce the stock’s value </li></ul></ul></ul><ul><ul><ul><li>When directors are sued, courts typically focus on whether the director’s decision seems reasonable, rather than on whether the decision led to higher profitability </li></ul></ul></ul>
  39. 39. The Corporate Monitoring Role <ul><li>If managers believe their stock is undervalued in the market, they may take actions to capitalize on this discrepancy </li></ul><ul><li>Stock repurchases </li></ul><ul><ul><li>Use excess cash to purchase shares in the market at a low price </li></ul></ul><ul><ul><li>Stock prices respond favorably to stock repurchase announcements </li></ul></ul>
  40. 40. The Corporate Monitoring Role (cont’d) <ul><li>Market for corporate control </li></ul><ul><ul><li>A firm may engage in acquisitions to increase the value of a target firm </li></ul></ul><ul><ul><ul><li>Can also create synergistic benefits </li></ul></ul></ul><ul><ul><li>A high stock price is useful to exchange acquirer shares for target shares </li></ul></ul><ul><ul><li>Share prices of target firms react very positively </li></ul></ul><ul><ul><li>Leveraged buyouts </li></ul></ul><ul><ul><ul><li>LBOs are acquisitions that require substantial amounts of borrowed funds </li></ul></ul></ul><ul><ul><ul><li>A reverse LBO is desirable when the stock can be sold at a high price </li></ul></ul></ul>
  41. 41. The Corporate Monitoring Role (cont’d) <ul><li>Barriers to corporate control </li></ul><ul><ul><li>Antitakeover amendments are designed to protect shareholders against an acquisition that will ultimately reduce the value of their investment in the firm </li></ul></ul><ul><ul><ul><li>e.g., may require at least two-thirds of shareholder votes to approve a takeover </li></ul></ul></ul><ul><ul><li>Poison pills are special rights awarded to shareholders or specific managers upon specified events </li></ul></ul><ul><ul><ul><li>e.g., the right for all shareholders to be allocated an additional 30 percent of all shares without cost whenever a potential acquirer attempts to acquire the firm </li></ul></ul></ul>
  42. 42. The Corporate Monitoring Role (cont’d) <ul><li>Barriers to corporate control (cont’d) </li></ul><ul><ul><li>A golden parachute specifies compensation to managers in the event that they lose their jobs </li></ul></ul><ul><ul><ul><li>e.g., all managers have the right to receive 100,000 shares of the firm’s stock whenever the firm is acquired </li></ul></ul></ul>
  43. 43. Globalization of Stock Markets <ul><li>Barriers between countries have been removed or reduced </li></ul><ul><ul><li>Firms in need of funds can tap foreign markets </li></ul></ul><ul><ul><li>Investors can purchase foreign stocks </li></ul></ul><ul><li>Foreign stock offerings in the U.S. </li></ul><ul><ul><li>Large privatization programs in Latin America and Europe can not be digested in local markets </li></ul></ul><ul><ul><li>By issuing stock in the U.S., foreign firms diversify their shareholder base </li></ul></ul><ul><ul><li>SEC regulations may prevent some firms from offering stock in the U.S. </li></ul></ul><ul><ul><li>Some foreign firms use American depository receipts (ADRs) </li></ul></ul>
  44. 44. Globalization of Stock Markets (cont’d) <ul><li>International placement process </li></ul><ul><ul><li>Many U.S. investment banks and commercial banks provide underwriting services in foreign countries </li></ul></ul><ul><ul><li>Listing on a foreign stock exchange: </li></ul></ul><ul><ul><ul><li>Enhances the liquidity of the stock </li></ul></ul></ul><ul><ul><ul><li>May increase the firm’s perceived financial standing </li></ul></ul></ul><ul><ul><ul><li>Can protect the firm against hostile takeovers </li></ul></ul></ul><ul><ul><ul><li>Entails some costs </li></ul></ul></ul>
  45. 45. Globalization of Stock Markets (cont’d) <ul><li>Global stock exchanges </li></ul><ul><ul><li>Recently, stocks outside the U.S. have been issuing stock more frequently </li></ul></ul><ul><ul><li>The percentage of individual versus institutional ownership varies across countries </li></ul></ul><ul><li>Emerging stock markets: </li></ul><ul><ul><li>Enable foreign firms to raise large amounts of capital by issuing stock </li></ul></ul><ul><ul><li>Provide a means for investors from other countries to invest their funds </li></ul></ul><ul><ul><li>May not be as efficient as the U.S. stock market </li></ul></ul><ul><ul><li>May exhibit high returns and high risk </li></ul></ul><ul><ul><li>May be volatile because of fewer shares and trading based on rumors </li></ul></ul>
  46. 46. Globalization of Stock Markets (cont’d) <ul><li>Methods used to invest in foreign stocks </li></ul><ul><ul><li>Direct purchases involves directly buying stock of foreign companies listed on the local stock exchanges </li></ul></ul><ul><ul><li>American depository receipts are attractive because: </li></ul></ul><ul><ul><ul><li>They are closely followed </li></ul></ul></ul><ul><ul><ul><li>They are required to file financial statements with the SEC </li></ul></ul></ul><ul><ul><ul><li>They are quoted reliably </li></ul></ul></ul>
  47. 47. Globalization of Stock Markets (cont’d) <ul><li>Methods used to invest in foreign stocks (cont’d) </li></ul><ul><ul><li>International mutual funds are portfolios of international stocks created and managed by various financial institutions </li></ul></ul><ul><ul><li>World equity benchmark shares represent indexes that reflect composites of stocks for particular countries that can be purchased or sold </li></ul></ul>