Category Archives: Initial Public Offering – IPO

Acquisition

Definition of ‘Acquisition’

A corporate action in which a company buys most, if not all, of the target company’s ownership stakes in order to assume control of the target firm. Acquisitions are often made as part of a company’s growth strategy whereby it is more beneficial to take over an existing firm’s operations and niche compared to expanding on its own. Acquisitions are often paid in cash, the acquiring company’s stock or a combination of both.
—————————————–
Acquisitions can be either friendly or hostile. Friendly acquisitions occur when the target firm expresses its agreement to be acquired, whereas hostile acquisitions don’t have the same agreement from the target firm and the acquiring firm needs to actively purchase large stakes of the target company in order to have a majority stake.

In either case, the acquiring company often offers a premium on the market price of the target company’s shares in order to entice shareholders to sell. For example, News Corp.’s bid to acquire Dow Jones was equal to a 65% premium over the stock’s market price.

Wholly Owned Subsidiary

Definition of ‘Wholly Owned Subsidiary’


A company whose common stock is 100% owned by another company, called the parent company. A company can become a wholly owned subsidiary through acquisition by the parent company or spin off from the parent company. In contrast, a regular subsidiary is 51 to 99% owned by the parent company. One situation in which a parent company might find it helpful to establish a subsidiary company is if it wants to operate in a foreign market. This arrangement is common among high-tech companies who want to retain complete control and ownership of their technology.

—————————————–
Wholly owned subsidiaries allow the parent company to retain the greatest amount of control, but also leave the parent with all the costs and risks of full ownership. When a lesser number of costs and risks are desirable, or when it is not possible to obtain complete or majority control, the parent company might introduce an affiliate, associate or associate company in which it would own a minority stake.

Subsidiary

Definition of ‘Subsidiary’


A company whose voting stock is more than 50% controlled by another company, usually referred to as the parent company or holding company. A subsidiary is a company that is partly or completely owned by another company that holds a controlling interest in the subsidiary company. If a parent company owns a foreign subsidiary, the company under which the subsidiary is incorporated must follow the laws of the country where the subsidiary operates, and the parent company still carries the foreign subsidiary’s financials on its books (consolidated financial statements). For the purposes of liability, taxation and regulation, subsidiaries are distinct legal entities.

—————————————–
The purchase of a controlling interest differs from a merger and the parent corporation can acquire the controlling interest with a smaller investment. Additionally, stockholder approval is not required in the formation of a subsidiary as it would be in the event of a merger. Famous investor Warren Buffett’s Berkshire Hathaway, Inc. has a long and diverse list of subsidiaries, including Clayton Homes, the Pampered Chef, GEICO Auto Insurance and Helzberg Diamonds.

Parent Company

Definition of ‘Parent Company’


A company that controls other companies by owning an influential amount of voting stock or control. Parent companies will typically be larger firms that exhibit control over one or more small subsidiaries in either the same industry or other industries. Parent companies can be either hands-on or hands-off with subsidiaries, depending on the amount of managerial control given to subsidiary managers.

—————————————–
Companies can become parent companies by many different means. The two most common ways are through the acquisitions of smaller companies and the spinoff or creation of subsidiaries. For the purposes of accounting, parent companies report results of subsidiaries on audited statements when subsidiaries fall under the same corporate identity.

Split-Off

Definition of ‘Split-Off’


A means of reorganizing an existing corporate structure in which the stock of a business division, subsidiary or newly affiliated company is transferred to the stockholders of the parent company in exchange for stock in the latter. Split-offs often occur when the parent company wishes to draw a greater distinction between itself and the split-off business.

—————————————–
It is probably wise to treat split-offs with suspicion, as companies will often use them to bolster the balance sheet by shedding underperforming or unprofitable divisions and/or subsidiaries. For example, when Blockbuster started feeling the pinch from other, cheaper DVD retailers and cable companies offering video-on-demand and easy video recording, Viacom announced plans to split-off of its 81.5% stake in the one-time video rental giant and was even willing to absorb a $1.3 billion charge to do it. The split-off was completed in 2004. On Sept. 23, 2010, Blockbuster filed for Chapter 11 bankruptcy protection.

Reverse Stock Split

Definition of ‘Reverse Stock Split’


A corporate action in which a company reduces the total number of its outstanding shares. A reverse stock split involves the company dividing its current shares by a number such as 5 or 10, which would be called a 1-for-5 or 1-for-10 split, respectively. A reverse stock split is the opposite of a conventional (forward) stock split, which increases the number of shares outstanding. Similar to a forward stock split, the reverse split does not add any real value to the company. But since the motivation for a reverse split is very different from that for a forward split, the stock’s price moves after a reverse and forward split may be quite divergent. A reverse stock split is also known as a stock consolidation or share rollback.

—————————————–
If a company has 200 million shares outstanding and the shares are trading at 20 cents each, a 1-for-10 reverse split would reduce the number of shares to 20 million, while the shares should trade at about $2. Note that the company’s market capitalization pre-split and post-split should – theoretically at least – be unchanged at $40 million.

But in the real world, a stock that has undergone a reverse split may well come under renewed selling pressure. In the above instance, if the stock declines to a price of $1.80 after the reverse split, the company’s market cap would now be $36 million. Conversely, with a forward split, the stock may gain post-split because it is perceived as a success and its lower price might attract more investors.

In the vast majority of cases, a reverse split is undertaken to fulfill exchange listing requirements. An exchange generally specifies a minimum bid price for a stock to be listed. If the stock falls below this bid price, it risks being delisted. Exchanges temporarily suspend this minimum price requirement during uncertain times; for example, the NYSE and Nasdaq suspended the minimum $1 price requirement for stocks listed during the 2008-09 bear market. However, during normal business times, a company whose stock price has declined precipitously over the years may have little choice but to undergo a reverse stock split to maintain its exchange listing.

A secondary benefit of a reverse split is that by reducing the shares outstanding and share float, the stock becomes harder to borrow, making it difficult for short sellers to short the stock. The limited liquidity may also widen the bid-ask spread, which in turn deters trading and short selling.

The ratios associated with reverse splits are typically higher than those for forward splits, with some splits done on a 1-for-10, 1-for-50 or even 1-for-100 basis.

Stock Split

Definition of ‘Stock Split’

A corporate action in which a company divides its existing shares into multiple shares. Although the number of shares outstanding increases by a specific multiple, the total dollar value of the shares remains the same compared to pre-split amounts, because the split did not add any real value. The most common split ratios are 2-for-1 or 3-for-1, which means that the stockholder will have two or three shares for every share held earlier.
Also known as a “forward stock split.”

In the U.K., a stock split is referred to as a “scrip issue,” “bonus issue,” “capitalization issue” or “free issue.”

—————————————–
For example, assume that XYZ Corp. has 20 million shares outstanding and the shares are trading at $100, which would give it a $2 billion market capitalization. The company’s board of directors decides to split the stock 2-for-1. Right after the split takes effect, the number of shares outstanding would double to 40 million, while the share price would be $50, leaving the market cap unchanged at $2 billion.

Why do companies go through the hassle and expense of a stock split? For a couple of very good reasons:

First, a split is usually undertaken when the stock price is quite high, making it pricey for investors to acquire a standard board lot of 100 shares. If XYZ Corp.’s shares were worth $100 each, an investor would need to purchase $10,000 to own 100 shares. If each share was worth $50, the investor would only need to pay $5,000 to own 100 shares.

Second, the higher number of shares outstanding can result in greater liquidity for the stock, which facilitates trading and may narrow the bid-ask spread.

While a split in theory should have no effect on a stock’s price, it often results in renewed investor interest, which can have a positive impact on the stock price. While this effect can be temporary, the fact remains that stock splits by blue chip companies are a great way for the average investor to accumulate an increasing number of shares in these companies. Many of the best companies routinely exceed the price level at which they had previously split their stock, causing them to undergo a stock split yet again. Wal-Mart, for instance, has split its shares as many as 11 times on a 2-for-1 basis from the time it went public in October 1970 to March 1999. An investor who had 100 shares at Wal-Mart’s IPO would have seen that little stake grow to 204,800 shares over the next 30 years.

Shareholders’ Agreement

Definition of ‘Shareholders’ Agreement’


An arrangement among a company’s shareholders describing how the company should be operated and the shareholders’ rights and obligations. It also includes information on the regulation of the shareholders’ relationship, the management of the company, ownership of shares and privileges and protection of shareholders.

—————————————–
The shareholders’ agreement is intended to make sure that shareholders are treated fairly and that their rights are protected.

The agreement includes sections outlining the fair and legitimate pricing of shares (particularly when sold). It also allows shareholders to make decisions about what outside parties may become future shareholders and provides safeguards for minority positions.

Shareholder

Definition of ‘Shareholder’


Any person, company or other institution that owns at least one share of a company’s stock. Shareholders are a company’s owners. They have the potential to profit if the company does well, but that comes with the potential to lose if the company does poorly. A shareholder may also be referred to as a “stockholder”.

—————————————–
Unlike the owners of sole proprietorships or partnerships, corporate shareholders are not personally liable for the company’s debts and other obligations. Also, corporate shareholders do not play a major role in running the company. The board of directors and executive management perform that function. Common stockholders are, however, able to vote on corporate matters, such as who sits on the board of directors and whether a proposed merger should go through (preferred stockholders usually do not have voting rights). They also benefit when the company performs well and its share price increases, and they have the right to trade their shares on a stock exchange, which makes stock a highly liquid investment.

Shareholders do have rights, which are defined in the corporation’s charter and bylaws. They can inspect the company’s books and records, sue the corporation for misdeeds of the directors and officers, and if the company liquidates, they have a right to a share of the proceeds. However, creditors, bondholders and preferred stockholders have precedence over common stockholders in a liquidation. Shareholders also have a right to receive a portion of any dividends the company declares.

Shareholders can attend the corporation’s annual meeting to learn about the company’s performance, vote on who sits on the board of directors and other matters. They can also listen to the meeting via conference call and vote by proxy through the mail or online. To learn more about a company’s policies toward shareholders, consult the company’s corporate governance policies.

Shares

Definition of ‘Shares’


A unit of ownership interest in a corporation or financial asset. While owning shares in a business does not mean that the shareholder has direct control over the business’s day-to-day operations, being a shareholder does entitle the possessor to an equal distribution in any profits, if any are declared in the form of dividends. The two main types of shares are common shares and preferred shares.

—————————————–
In the past, shareholders received a physical paper stock certificate that indicated that they owned “x” shares in a company. Today, brokerages have electronic records that show ownership details. Owning a “paperless” share makes conducting trades a simpler and more streamlined process, which is a far cry from the days were stock certificates needed to be taken to a brokerage before a trade could be conducted.

While shares are often used to refer to the stock of a corporation, shares can also represent ownership of other classes of financial assets, such as mutual funds.