Principles of Corporate Finance_ 12th Edition

384 Part Four Financing Decisions and Market Efficiency

bre44380_ch15_379-409.indd 384 09/11/15 07:56 AM

There comes a stage in the life of many young companies when they decide to make an initial

public offering of stock, or IPO. This may be a primary offering, in which new shares are

sold to raise additional cash for the company. Or it may be a secondary offering, where the

existing shareholders decide to cash in by selling part of their holdings.

Many IPOs are a mixture of primary and secondary offerings. For example, in 2014

Alibaba’s IPO raised a record $25 billion. About a third of the shares were sold by the com-

pany, but the remainder were sold by existing shareholders. Many of the biggest secondary

IPOs arise when a government sells its stake in a company. For example, in 2010 the U.S.

Treasury raised $20 billion by selling its holdings of General Motors common and preferred

stock. The same year the Chinese government raised a similar sum by the sale of the state-

owned Agricultural Bank of China.

IPOs raise cash for the company or the existing shareholders, but, as you can see from

Figure 15.2, there may be other motives for going public. For example, the company’s stock

price provides a readily available yardstick of performance, and allows the firm to reward the

management team with stock options. And, because information about the company becomes

more widely available, the company can diversify its sources of finance and reduce its bor-

rowing cost.

While there are advantages to having a market for your shares, we should not give the

impression that firms everywhere aim to go public. In many countries it is common for large

businesses to remain privately owned. For example, Italy has only about an eighth as many

listed companies as the U.K. although the economies are roughly similar in size.

BEYOND THE PAGE

mhhe.com/brealey12e

The largest U.S.

private companies

◗ FIGURE 15.2 Survey evidence on the motives for going public.

Source: J. C. Brau and S. E. Fawcett, “Evidence on What CFOs Think about the IPO Process: Practice, Theory and Managerial Implications,”

Journal of Applied Corporate Finance 18 (October 2006), pp. 107–117.

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59.4%

51.2%

49.1%

45.9%

44.1%

42.5%

32.2%

29.8%

27.6%

Debt is becoming too expensive 14.3%

Our company has run out of private equity

To attract analysts’ attention

To allow venture capitalists to cash out

To minimize our cost of capital

To allow one or more principals to diversify

personal holdings

To broaden the base of ownership

To enhance the reputation of our company

To establish a market price/value for our firm

To create public shares for use in

future acquisitions

CFOs who agree or strongly agree, %

15-2 The Initial Public Offering