Chapter 24 Securities Operations Financial Markets and Institutions, 7e, Jeff Madura Copyright ©2006 by South-Western, a division of Thomson Learning All rights reserved Chapter Outline          Investment banking services Brokerage services Sources of income Regulation of securities firms Risks of securities firms Valuation of a securities firm Interaction with other financial institutions Participation in financial markets Globalization of securities firms Investment Banking Services  One of the main functions of investment banking firms (IBFs) is raising capital for corporations  IBFs originate, structure, and place securities in the capital markets  They serve as an intermediary rather than a lender or investor  Their compensation is typically in the form of fees Investment Banking Services (cont’d)  How IBFs facilitate new stock offerings  An IBF acts as an intermediary between a corporation and investors  Origination   IBFs recommend the appropriate amount of stock to issue IBFs evaluate the corporation’s financial condition to determine the appropriate stock price Investment Banking Services (cont’d)  How IBFs facilitate new stock offerings (cont’d)  Origination  The issuing corporation registers with the SEC    (cont’d) The registration statement is intended to ensure that accurate information is disclosed by the issuing corporation Included in the registration information is the prospectus, disclosing relevant financial data on the firm and provision applicable to the security The IBF and the issuing firm may engage in a road show to meet with institutional investors Investment Banking Services (cont’d)  How IBFs facilitate new stock offerings (cont’d)  Underwriting    The IBF may form an underwriting syndicate and ask other IBFs to underwrite a portion of the stock In a best-efforts agreement, the IBF does not guarantee a price to the issuing corporation During IPOs:    IBFs want to set the price high so that the issuing corporation receives higher proceeds IBFs not want to set the price too high in order to place the entire issue IBFs tend to underprice IPOs Investment Banking Services (cont’d)  How IBFs facilitate new stock offerings (cont’d)  Distribution     of stock The prospectus is distributed to all potential purchasers of the stock The issue is advertised to the public Some IBFs have brokerage subsidiaries that can sell stock on a retail level The corporation incurs two types of flotation costs:   Fees paid to the underwriters Issue costs, including printing, legal, registration, and accounting expenses Investment Banking Services (cont’d)  How IBFs facilitate new stock offerings (cont’d)  Advising  The IBF acts as an adviser during the origination stage and may provide advice after the stock is issued  Private     placement of stocks IBFs may be able to place an entire offering with a small set of institutional investors Rule 144A allows firms to engage in private placement without the registration statement An underwriting syndicate may not be necessary The issuing firm’s costs are lower Investment Banking Services (cont’d)  How IBFs facilitate new bond offerings  Origination     The IBF may suggest a maximum amount of bonds based on existing debt levels The coupon rate, maturity, and other provisions are decided The asking price on the bonds will be determined by evaluating market prices of existing bonds Issuers of bonds must register with the SEC and a registration statement must be filed Investment Banking Services (cont’d)  How IBFs facilitate new bond offerings (cont’d)  Underwriting bonds      Some issuers may solicit competitive bids on the price of bonds from various IBFs IBFs provide several services to the issuer Underwriting spreads on newly issued bonds are normally lower than on newly issued stock The IBF may organize an underwriting syndicate to participate in placing the bonds Distribution of bonds     A prospectus is distributed to all potential purchasers The issue is advertised to the public The asking price is normally set to ensure a sale of the entire issue Flotation costs range from 0.5 to percent of the value of the bonds 10 .. .Chapter Outline          Investment banking services Brokerage services Sources of income