Category Archives: The Initial Public Offering Handbook

Glossary of Common IPO Terms

Appendix 1: “Talk the Talk”—

Glossary of Common IPO Terms

The initial public offering has a distinct lexicon. Here is a list of common IPO terms that can help you navigate discussions about the IPO process.

10b-5  Reference to Rule 10b-5 of the Exchange Act, which establishes liability for fraudulent ac- tivities in a securities offering and for material misstatements or omissions in the offering materials, such as the offering prospectus.

Blue line, digital blue (or similar terms)  References to the financial printer’s providing a final, type- set version of the preliminary or final prospectus for final approval before printing the prospectus in quantity.

Book runner  The managing or lead underwriter.

Building a book  The underwriters’ process of building interest in the initial public offering and ob- taining indications of interest, and specific price and quantity information, from potential investors.

Cheap stock  Securities, commonly stock options or other equity awards, granted with an exercise price less than fair market value.

Comfort letter (or cold comfort letter)  The letter from the company’s auditors to the underwriters regarding the financial data and financial statements in the registration statement, which is delivered at pricing.

Comment letter  A letter from the SEC commenting in detail on the registration statement filed with the SEC, after its review of the initial registration statement or amendments to the filing.

D&O questionnaire  A questionnaire that the company’s directors, officers and major stockholders will be required to complete concerning matters that may be required to be disclosed in the registra- tion statement.

Directed share (or friends and family) program  A program in which certain persons close to the company (so called “friends and family”) can purchase a certain amount of shares in the offering.

Drafting sessions  Meetings with the IPO working group in-person or by conference call to discuss in detail the drafting of the prospectus.

Due diligence defense  The defense the underwriters have to liability for material misstatements or omissions in the offering documents, which is established by the conduct of reasonable due diligence as prescribed in the securities laws.

Electronic road show  A road show presentation given over the Internet or other electronic means, where the participants listen to the oral presentation and remotely view the slide presentation.

Exchange Act (or ’34 Act)  The Securities Exchange Act of 1934, as amended, and associated rules and regulations of the SEC.

FINRA  The Financial Industry Regulatory Authority (formerly, the National Association of Secu- rities Dealers, or “NASD”), which is the self-regulatory organization governing the conduct of the underwriters and broker-dealers in the IPO.

Free-writing prospectus  Any written or graphic communication, other than a prospectus that meets the statutory requirements of the Securities Act, that constitutes an offer to sell, or a solicitation of an offer to buy, securities that are or will be the subject of a registration statement.

Gun-jumping  Any publicity or other activity that might be considered an illegal offer to sell the company’s securities prior to the filing of the registration statement.

Lockups  An agreement by the company, directors, officers and certain stockholders to not sell any company securities for a prescribed period of time after the IPO, typically 180 days.

Over-allotment option (or Green Shoe, “shoe”)  An option that gives the underwriters the option to purchase up to 15% additional shares, on the same terms that they purchased the original shares, for a period up to 30 days after the initial public offering.

Pre-filing period  The period after the company becomes “in registration” and before the company has filed its registration statement. There is no bright line as to when a company first becomes “in registration,” but, at the latest, a company is in registration once it reaches an understanding with a managing underwriter to lead its public offering. During the so-called “pre-filing period” of the IPO, the company and underwriters may not solicit offers to buy the company’s securities to be offered in the IPO.

Price range  The range of prices per share stated in the preliminary prospectus as the range in which the company expects it will ultimately price its stock for sale to the public.

Pricing  The determination by the company of the per share price at which the company will offer its stock to the public, after consultation with the underwriters following the road show and effec- tiveness of the registration statement.

Pricing committee  A board committee, usually comprised of the CEO, CFO and one or two inde- pendent directors, that will determine at pricing the final offering price and approve the underwriting agreement.

Prospectus  The “glossy” portion of the registration statement given to prospective investors.

Red herring or “reds”  The preliminary prospectus, printed with a red legend on the side of the cover stating that the prospectus is subject to completion.

Response letter  A letter from the company or counsel for the company, responding to the SEC’s comments on the registration statement.

Road show  Representatives from the company meet with prospective investors (generally, institu- tional investors such as mutual funds, pension funds and the like) in various cities and make presen- tations about the company.

Road show presentation  The slide show presentation (and related remarks) prepared for investor presentations on the road show.

Sarbanes-Oxley (or Sarbox, Sox)  The Sarbanes-Oxley Act of 2002, which was the source of a great number of securities reforms increasing the legal compliance requirements of public companies.

SEC  The U.S. Securities and Exchange Commission.

Securities Act (or ’33 Act)  The Securities Act of 1933, as amended, and associated rules and regula- tions of the SEC

Summary (or Box)  The summary of the company and offering contained in the front of the pro- spectus, usually surrounded by a box border.

S-1  The Form S-1 is the registration statement filed with the SEC to register securities for an offer- ing. It includes the prospectus.

S-K  Regulation S-K includes and describes items of disclosure required to be included in the nonfi- nancial portion of the registration statement on Form S-1.

S-X  Regulation S-X includes and describes items of disclosure required to be included in the finan- cial portion of the registration statement on Form S‑1.

Window  The theoretical period in which the company may optimally sell, or may only be able to sell, its stock in the IPO.


Sale of Shares to the Public (Secondaries)

Sales of shares by the fund to the public in a portfolio company’s initial public offer- ing or through subsequent registered offerings is a fundamental liquidity strategy. When analyzing this strategy, a fund should consider how the following factors would affect its ability to achieve liquidity:

•An IPO is primarily a capital-raising event—current investors may be limited in the amount they can sell in the IPO.

•Market demand for secondary offerings will affect the amount and timing of sales by the fund. If the public market float and trading volume are small, the fund may not be able to sell sizable blocks of its shares to the public.

•While the public market may value the shares at a higher multiple, the market price may deteriorate over time and sales by officers, directors and other signifi- cant stockholders could further depress the trading price.

•Registration rights agreements almost always contain restrictions on forcing the company to register shares, including provisions allowing the underwriters and company to cut back the amount of shares sold by an investor in an offering.

•Significant investors are typically locked up, or restricted from selling shares, for 180 days following an IPO and may be locked up for various periods after later public offerings.

Funds can take a number of steps to assess whether an IPO of a portfolio company will achieve satisfactory liquidity for its equity in the company through secondary offer- ings. First, a fund should evaluate the company’s business prospects and ability to deliver operating results after the IPO that will maintain or increase public stockholder value. This would include consideration of how the company will report results under SEC guidelines and which results public investors and analysts would find important. Second, a fund should analyze its rights under the portfolio company’s organizational agreements and any registration rights and other agreements relating to the fund’s rights to participate in public offerings. Third, the fund should talk with investment banks specializing in the company’s particular industry about the probable strength and depth of the market for secondary of- ferings after the IPO. The market for secondary offerings will depend, in part, on the size of the company and offering; the level of public interest in the company; the strength of the company’s industry or sector; the company’s growth plan and strategies; and the outlook for the stock market generally. All of these matters can affect whether the fund may be able to liquidate its position quickly through a small number of large sales or more slowly through a large number of small sales.



Comparison of Private Equity and Venture-Backed IPOs to Private Sales


The Statistics

“Choosing the Exit Door”: Comparison of Private Equity and Venture-Backed IPOs to Private Sales

Venture-Backed IPOs. Traditionally, IPOs have been viewed as a preferred exit strat- egy for venture capital funds. Among other reasons, public offerings frequently result in the highest valuation and showcase successful investments. The table below summarizes the number of IPOs of venture-backed companies from 1992 to 2007.

However, exit by private sale (in both number and dollars) has outpaced exit by IPO in the United States. Since 2001, the number of private exits with disclosed values exceeded the number of IPO exits by approximately 9 to 1. Only at the 1999-2000 height of the public market bubble did the number of IPO exits begin to approach the number of private sale exits. During 2000, there were approximately 201 IPOs of venture-backed companies, compared with 462 private sale exits.

Year Number of Venture-Backed IPOs
2007 75
2006 56
2005 43
2004 67
2003 23
2002 18
2001 22
2000 201
1999 250
1992-1998 141 average per year

Source:, © 2008 CCH, a Wolters Kluwer Company. Used by permission.

Private Equity-Backed IPOs.  Even with the increased popularity of “secondarybuyouts”—one private equity fund selling to another private equity fund—private equity- backed IPO exits have seen a dramatic increase since 2004. In 2006, 27% of U.S. IPOs (34% by proceeds) involved companies purportedly backed by private equity funds, ac- cording to Global IPO Trends Report 2007 by Ernst & Young. Nevertheless, private sales still dominate IPOs as an exit strategy for private-equity-backed companies. For instance, for 2006 it has been reported that there were 120 sales of private equity-backed compa- nies to other private equity funds alone, compared to 65 IPOs of private equity-backed companies. Note that statistics vary significantly with respect to the number of IPOs of companies that were backed by private equity sponsors.


Chapter 9—Price, Close and Trade

Conclusion of the Road Show and Effectiveness of the

Registration Statement

The initial public offering process culminates in the company’s stock trading on the stock exchange on which the stock is listed. Before the company and the underwriters can agree on the price at which the stock will be offered to the public, the offering participants must work in coordination to complete the SEC review process, FINRA’s review of the underwriting arrangements and the stock exchange’s review of the company’s listing ap- plication. The goal is to make sure that these processes conclude before or during the wind- down of the road show. The company and the underwriters work hard to build interest during the road show and hope to price the offering as soon as the road show is completed in order to take advantage of the interest generated.

Events Leading to Pricing

The SEC must declare the company’s registration statement effective in order for pric- ing and trading to occur. Generally, on the day the road show concludes, the company and the managing underwriters ask the SEC to declare the registration statement effective and, once effective, the company sets the price for the IPO.

The SEC’s rules require the company and managing underwriters to request in writing, at least 48 hours in advance of the desired effective time, that the SEC declare the registra- tion statement effective. In addition, FINRA must confirm that it has no objection to the underwriting arrangements before the SEC will declare the registration statement effective. If acceleration is requested at least 48 hours in advance, and the company has addressed the SEC’s comments on the registration statement to the SEC’s satisfaction, the SEC is gen- erally willing to accommodate the requested effective time. Effectiveness orders, the official SEC document declaring the registration statement effective, are now posted on the SEC’s EDGAR website. The company’s registration statement under the Exchange Act—typically a short-form registration statement Form8-A in the case of an IPO—will become effective at the same time as the Securities Act registration statement.



Selling Stockholders

Existing stockholders may wish, and in fact may have contractual registration rights, to sell shares of company common stock they own in the IPO. The company and the un- derwriters should address this issue, which can be quite sensitive, early in the registration process. Some founders and officers may have a substantial portion of their net worth in company stockholdings. Often they have sacrificed for years to build a successful company and understandably may wish to “take some chips off the table” by selling some stock to raise cash. Underwriters may be concerned that allowing stockholders, especially officers or founders, to sell in the IPO may be perceived as insiders “bailing out” because of doubts about the company’s prospects. However, if the company is willing to permit existing stockholders to sell and the underwriters are eager to please both the company and the selling stockholders, and particularly if the market for the issue is “hot,” selling stockhold- ers may be included in the offering, in some cases as the seller of the shares subject to the underwriters’ over-allotment option.

Participation of selling stockholders in the IPO requires additional offering arrange- ments. To ensure a smooth process, the selling stockholders will be asked to sign a power of attorney assigning to at least one attorney-in-fact the authority to negotiate and sign the underwriting agreement on behalf of the selling stockholders. Selling stockholders will also be asked to surrender their stock certificates to a custodian, who will deliver the certificates for transfer at the closing of the offering.


Underwriters use “lockup” agreements as a means to help stabilize trading in the com- pany’s common stock following the IPO. Typically, the underwriters will require the com- pany and its directors, officers and stockholders to enter lockup agreements in which they agree not to sell, transfer or otherwise dispose of any common stock they own for a period of time, typically ending 180 days after the closing, without the underwriters’ consent. If the company and underwriters agree to offer a directed share or “friends and family” pro- gram (discussed below), participants in the program also will be required to sign a lockup agreement. The underwriters will require that most, if not all, of the lockup agreements be



Distribution of the Shares

Underwriters have different account bases that constitute the primary sources of po- tential resales of the company’s stock in the IPO. Most investment banks that serve as managing underwriters focus primarily on selling to institutional accounts. Other, often

regional, underwriters focus primarily on selling to retail customers. Companies often opt to include both types of underwriters in the underwriting syndicate for the offering, so that both institutions and individual investors participate.

The optimal mix of institutional and retail investors is a subject of much debate. In- stitutional investors typically will hold large blocks of common stock. They are gener- ally considered more sophisticated stockholders than retail investors and better able to comprehend a company’s financial and operational complexities. On the other hand, an institutional investor can more easily influence the market for a company’s common stock through its purchase and sale decisions. Institutional investors also typically take a more activist approach to corporate governance matters. Conversely, retail investors can provide liquidity and stability for a company’s common stock, and sales or purchases by a single retail investor rarely cause market movement in the company’s common stock.



Offering Schedule

If nothing else, the organizational meeting attendees will be keenly interested in dis- cussing the offering schedule and responsibility checklist. The underwriters will present at least ahigh-level offering timeline, with important targets for registration statement filing, road show commencement and offering conclusion. A sample offering schedule and time and responsibility checklist can be found in Appendix 2. This schedule allows for multiple drafting sessions; the underwriters’ completion of their due diligence review; the filing of the registration statement with the SEC; the waiting period for the company to receive its first round of comments from the SEC (approximately 30 days); the revision of the registration statement in response to the SEC’s comments (which may require one

or several amendments); the road show presentations; and the pricing and closing of the offering. In some circumstances, the company may want to compress this time period to take advantage of market opportunities, such as favorable news regarding the company’s industry or confidence in the public markets. While the working group may work furiously to accelerate the offering schedule to meet the company’s and underwriters’ optimal offer- ing schedule, SEC review time and resolution of open issues, especially accounting issues, may significantly delay the offering. Companies that are thoroughly prepared will be in the best position to accelerate the process. Chapter 5 also provides an overview of an offering roadmap.


Updating Website and Consistency With Disclosure

Many companies now use their websites to communicate general business, marketing and financial information to customers, the general public and potential investors. A com- pany might also use its website to supply information from third parties, either by publish- ing the information on its website or by hyperlinking to the third party’s site. Because all online disclosures must comply with federal and state securities laws, they pose legal risks for the company. The SEC has made it clear that information available on a corporate website constitutes a “written communication” subject to the SEC’s antifraud rules.

Trap for the Unwary

“Keep it Clean”: Scrubbing the Website to Avoid Gun-Jumping

Although a company may think it acceptable to promote itself and laud corporate developments on its website, the SEC may view website content as an “offer,” a “general solicitation” or even as a “nonconforming prospectus.” As a result, a company planning for an IPO should take precautions regarding its online disclosure:

•Carefully review the company website and any information on third-party web- sites to which it hyperlinks.

•Work with counsel to understand the SEC’s strict rules regarding what kind of information may be disseminated when and to whom, which depend in part on the nature of the content and the timing of its availability before, during and after the registration process.

•“Scrub” the website before an offering to possibly remove company or product hype, links to third-party sites and other nonverifiable information.

•Avoid establishing a new website, or launching a new image campaign, immedi- ately before or during the registration period. The SEC may view such efforts as an attempt to condition the public to be receptive to the IPO and therefore as an illegal “offer” before or during the IPO.

•Use the website in a manner consistent with the company’s past practice, forordinary-course corporate communications (including press releases).

•Do not mention website addresses in the prospectus other than as a statement of fact.

•Limit references, if any, to an offering according to the “tombstone” and related rules of the SEC.


Post-Filing—Written Offering-Related Communications

Post-Filing—Written Offering-Related Communications

Prior to the Securities Offering Reform, a company had three ways to communicate matters relating to the IPO after filing the registration statement and before the SEC de- clared it effective (the so-called “waiting period”): (1) the “red-herring” preliminary pro- spectus (so-named for the red legend printed on the cover of the prospectus stating that offers cannot be accepted until the registration statement is effective), (2) a press release or tombstone advertisement that provided very limited information identifying the offer- ing pursuant to Rule 134 of the Securities Act, and (3) road show meetings with potential investors. Recent reforms relaxed the restrictions on written offering-related communica- tions that can be made after the registration statement is filed in two ways. The first is incremental—expansion of the types of information permitted to be included in a press release or similar publications under Rule 134. The second is moreradical—the permitted use of “free-writing prospectuses.”

Press Releases and Other Offering Notices

A press release has typically been used by companies to publicly announce the IPO after the registration statement is filed, and to tell potential investors from whom a pro- spectus can be obtained. Rule 134 substantially limits the information a company may in- clude in the release. As a result of the reforms, however, the release may now include more information about the company and its business, the mechanics and anticipated schedule of the IPO, procedures for account opening and for submitting indications of interest and conditional offers to buy the offered securities, and procedures for directed share plans and other participation in the IPO by officers, directors and employees. This notice may be in the form of a press release, an email or a website posting.


Chapter 6—Publicity and Communications

Many companies embarking on an initial public offering are surprised to learn that the federal securities laws place limitations on the kinds of publicity and communications the company may engage in leading up to, during and after the IPO. A company needs to continue business, after all, and most companies need to engage in publicity, marketing and communications to promote their products and services, reach customers and generate sales. In tension with this practical goal is the desire of the SEC to regulate the informa- tion provided to potential investors to generate interest in the company’s public offering. Recently, the SEC reformed certain of its regulations governing communications during an IPO to help decrease some of the tension between a company’s need to communicate information for business purposes and the SEC’s regulation of information provided to investors.

The federal securities laws regulate the kind of information a company may use to of- fer stock in its initial public offering and the manner in which the company may provide the information. To ensure that the company conveys information about the IPO primar- ily through a written prospectus meeting federal disclosure requirements, the SEC closely regulates the kinds of communications a company may make leading up to the filing of its registration statement, between the filing and the time the registration statement is declared effective, and after effectiveness. Consequently, the types of communication a company conducting an IPO may make will vary at different stages of the IPO process. In 2005, the SEC adopted the Securities Offering Reform rules, which clarified, and in some cases significantly changed, the communications permitted during the IPO process.

The Pre-Filing Period—Don’t Jump the Gun

During the pre-filing period of the IPO, a company may not make a written or oral of- fer to sell, or solicit an offer to buy, its securities. The “pre-filing period” is the period after the company becomes “in registration” and before the company has filed its registration statement. There is no bright line as to when a company first becomes “in registration” but, at latest, a company is in registration once it reaches an understanding with a manag- ing underwriter to lead its public offering.

A company’s publicity or other business communications can inadvertently constitute a prohibited written or oral offer of its stock during the pre-filing period. The reason is that the SEC has broadly interpreted what constitutes a written or oral “offer” to include com- munications that “condition the public mind or arouse public interest in particular securi- ties.” For example,company-generated publicity touting the company could be viewed as conditioning the market to be receptive to its stock in the IPO. As a result, the SEC could view company-generated publicity during the pre-filing period as an illegal “offer” prior to the filing of the registration statement, a problem known as “gun-jumping.” The recent Securities Offering Reform, however, has created a number of safe harbors that help clarify what kinds of business communications before and during an IPO would not be considered illegal “gun-jumping.”

Rule 163A provides a safe harbor with respect to company communications more than 30 days before the filing of the registration statement. Company communications made more than 30 days prior to the filing of a registration statement will not violate the gun-jumping provisions of the Securities Act, if (1) the communication does not refer to a

securities offering that will be covered by a registration statement, (2) the communication is made by or on behalf of the company going public, and (3) the company takes reason- able steps within its control to prevent redistribution or republication of the communica- tion during the 30 days before filing the registration statement.

The first two requirements are straightforward, but what does it mean for a company to take “reasonable steps within its control” to prevent dissemination of the communica- tion during the30-day pre-filing period? There is no recipe for what actions would consti- tute reasonable steps, but the SEC did offer some helpful guidance in a few areas:

Website information.  Is a company required to remove all its website information 30 days before filing to avoid gun-jumping? The SEC does not expect a pre-IPO company to necessarily remove information from its website, so long as the information is appropri- ately dated, otherwise identified as historical material and not referred to in the offering activities.

Timing of Publication of Interviews.  While the SEC does not expect a company to be able to control the republication or accessing of press releases that were issued before the 30-daypre-filing period, it does expect the company to control its own involvement in communications that may be distributed or published during the 30-day period. For ex- ample, the SEC has made it clear that a company that gives an interview to the press prior to the 30-day period cannot rely on the Rule 163A safe harbor if it is published during the 30-day period.