Considerations for an Equity Underwriting on Nasdaq from the Perspective of an Investment Bank

Kann, Johann Sebastian

Considerations for an Equity Underwriting on Nasdaq from the Perspective of an Investment Bank

Zusammenfassung

Inhaltsangabe:Abstract:
For the past ten years America has enjoyed a remarkably prolonged economic expansion. In 1998 and 1999 the international private investors community as well as institutional fund managers could follow an exceptional internet and e-commerce boom, reflected and followed by rising internet, biotech, pharmaceutical and new economy stocks. Especially Going Publics at that time were highly successful and an exceptionally easy way of raising capital for small and mid cap companies as well as new economy start ups. It must be said that the capital gains for day traders and speculators at that time were of low risk. This new economy boom, which was also called by pros dot com and new economy era ended in 2001, after sharp decreases in stock prices, massive losses on the US stock exchanges for institutional as well as private investors. Most of the dot com companies couldnt perform as they thought and struggled with high debt and losses. From todays perspective one can say that the massive international IPO floatings in the new economy were driven by too high expectations and wrong valuations.
Unfortunately, in Austria, where the financial - and capital markets could be seen as rather thin, small and mid cap companies have not even tried to go public in the United States of America on Nasdaq to raise capital and gain international reputation and size. Nevertheless in the future IPOs are going to become more and more popular and important, also for Austrian companies. The goal of this Masters Thesis is to give Austrian and international operating companies an overview about the Nasdaq, the chances and risks of IPOs on Nasdaq and the important elements for an IPO. This thesis can be seen as equity offering manual for global operating companies that intend to go public on Nasdaq, because it puts special emphasis on the procedures of an IPO in an Investment Bank and analyses the most recent financial market developments. Furthermore it provides managements with detailed information about the parties involved in the floating and on the important steps for a successful IPO. In conclusion my thesis contains material that gives detailed information about the Initial Public Offering Process on The National Association of Securities Dealers Automated Quotations System (Nasdaq) between 1998 and 2001 in relation with global operating underwriters (Investment Banks).
The author not only intends to give background information about the […]

Leseprobe

Inhaltsverzeichnis

ID 4988

Kann, Johann Sebastian: Considerations for an Equity Underwriting on Nasdaq from the

Perspective of an Investment Bank: Überlegungen zum Börsegang an der Nasdaq aus der

Sicht einer Investmentbank / Johann Sebastian Kann - Hamburg: Diplomica GmbH, 2002

Zugl.: Wien, Wirtschaftsuniversität, Diplom, 2001

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Table of Contents

1. GENERAL INTRODUCTION...1

1.1 Purpose of the Master's Thesis...1

1.2 Structure of the Master's Thesis...2

1.3 Macroeconomic Basis...3

1.4 Similar developments between Japan and the US...6

1.5 Introduction to Investment Banking...7

1.6 Introduction to Going Public...8

1.7 "Going Public" Defined...9

2. EUROPEAN FINANCIAL MARKETS...11

2.1 Europe's performance...11

2.2 Correlation between countries...15

3. AMERICAN FINANCIAL MARKETS...17

3.1 NYSE...17

3.2 AMEX...18

3.3 Nasdaq...19

3.4 History of Nasdaq...19

3.5 Nasdaq Index Overview...20

3.6 Nasdaq Index Calculation...24

4. NASDAQ MARKET STRUCTURE...25

4.1 Market Participants...25

4.2 Market Makers...26

4.3 Electronic Communication Networks...26

4.4 Trading...27

4.5 Spreads...28

4.6 Advantages of Nasdaq...28

4.7 Listing Requirements for the Nasdaq National Market...30

4.8 Listing and Corporate Governance...31

5. PUBLIC OFFERINGS OF DEBT AND EQUITY SECURITIES...32

5.1 Debt and Equity Securities...32

5.2 Public Equity Offerings...32

5.3 Floating Size...33

6. MANAGEMENT CONSIDERATIONS FOR GOING PUBLICS...35

6.1 Going Public A Major Management Decision...35

6.2 What might change after the IPO...37

6.3 Comparison Nasdaq/EASDAQ/Euro NM...40

7. PARTIES INVOLVED IN AN IPO...41

7.1 Role of the Underwriters...41

7.2 Role of Attorneys...41

7.3 Role of Accountants...42

7.4 Role of the Management of the IPO Candidate...43

7.5 Role of Financial Analysts in the IPO Process...43

8. PROCEDURE FOR AN IPO IN AN INVESTMENT BANK...45

8.1 Selection of a Managing Underwriter...45

8.2 Engagement Letter...46

8.3 Meeting with Securities Authorities...46

8.4 Registration Statement...47

8.5 Preparatory Phase...48

8.6 Selecting the Underwriters' Counsel...48

8.7 Initial Organisational Meeting...49

8.8 Due Diligence...49

8.9 Valuations...50

8.10 Selecting PR Firm and Road Show Specialist...50

8.11 Analyst Presentation...50

8.12 Drafting Legal Documentation Prospectus...51

8.13 Selecting Financial Printer...52

8.14 Commitment Committee... 53

8.15 Equity Commitment Committee...53

8.16 Meetings with Settlements and Operations...53

8.17 Sales Memo...53

8.18 Preparation of the Road Show Presentation...54

8.19 Sales Strategy Committee...54

8.20 Banker Research Call...54

8.21 Pre-Marketing Meetings...55

8.22 Roadshow Briefing Book...55

9. PRICING AN IPO...56

9.1 Syndicate and the book building process...56

9.2 Stabilisation - Greenshoe...57

9.3 Operational Closing Issues...58

9.4 Removing Issue from the Restricted List...58

10. CHANCES AND RISKS OF IPO'S...59

10.1 Market Efficiency...59

10.2 First day Returns...61

10.3 Long run Performance...61

10.4 Investment Bank Compensation...62

10.5 Financial Analyst Reputation...62

10.6 Industry Specialization...62

10.7 After-market Performance...63

10.8 Random Walk...63

11. COSTS OF AN IPO FROM THE PERSPECTIVE OF THE GOING

PUBLIC COMPANY...64

12. FURTHER CONSEQUENCES FOR THE GOING PUBLIC COMPANY...67

12.1 Financial Statement Considerations Disclosure Provisions...67

12.2 Planning a Compensation Strategy...70

12.3 Commitment as a Public Company...72

13. AMERICA'S PRODUCTIVITY AND NEW ECONOMY LEADING

THE IPO BOOST...76

13.1 The faster growth in 1999...76

13.2 Reasons for a strong US Economy...76

13.3 Productivity and new economy...77

14. BOOM IN 1999 FALLING STARS IN 2001...81

14.1 The rational behind the markets...81

14.2 The end of the boom...84

15. EXECUTIVE SUMMARY OF THE MASTER'S THESIS...88

16. FORECAST FOR THE FINANCIAL MARKETS...91

17. CONCLUSION OF THE MASTER'S THESIS...96

18.TABLES...97

19. REFERENCES...98

20. APPENDIX EMPIRICAL DATA...101

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1. General Introduction

For the past ten years America has enjoyed a remarkably prolonged economic

expansion. In 1998 and 1999 the international private investors community as well as

institutional fund managers could follow an exceptional internet and e-commerce

boom, reflected and followed by rising internet, biotech, pharmaceutical and new

economy stocks. Especially Going Publics at that time were highly successful and an

exceptionally easy way of raising capital for small and mid cap companies as well as

new economy start ups. It must be said that the capital gains for day traders and

speculators at that time were of low risk. This new economy boom, which was also

called by pros dot com and new economy era ended in 2001, after sharp decreases

in stock prices, massive losses on the US stock exchanges for institutional as well as

private investors. Most of the dot com companies couldn't perform as they thought

and struggled with high debt and losses. From today's perspective one can say that

the massive international IPO floatings in the new economy were driven by too high

expectations and wrong valuations. Unfortunately, in Austria, where the financial -

and capital markets could be seen as rather "thin", small and mid cap companies

have not even tried to go public in the United States of America on Nasdaq to raise

capital and gain international reputation and size. Nevertheless in the future IPO's

are going to become more and more popular and important, also for Austrian

companies.

1.1 Purpose of the Master's Thesis

The goal of this Master's Thesis is to give Austrian and international operating

companies an overview about the Nasdaq, the chances and risks of IPO's on Nasdaq

and the important elements for an IPO. This thesis can be seen as equity offering

manual for global operating companies that intend to go public on Nasdaq, because

it puts special emphasis on the procedures of an IPO in an Investment Bank and

analyses the most recent financial market developments. Furthermore it provides

managements with detailed information about the parties involved in the floating and

on the important steps for a successful IPO.

In conclusion my thesis contains material that gives detailed information about

the Initial Public Offering Process on "The National Association of Securities Dealers

-2-

Automated Quotations System" (Nasdaq

) between 1998 and 2001 in relation with

global operating underwriters (Investment Banks). The author not only intends to give

background information about the procedure of Initial Public Offerings (IPO's) (see

chapter 8 and 9) as well as background information about the "Going Public"

phenomenon (see chapter 1.2) and the phenomenon of investment banking (see

chapter 1.1) for managers, but wants to link the recent New Economy and IPO boom

with the current recession in the US and the similar developments in the past in

Japan.

It is essential to show managers which decisions in connection with an IPO

are relevant and which essential elements must be well prepared to guarantee a

successful Going Public. The parties involved in an IPO must be well chosen to

properly organise the steps to the final floating. Most of the managers have no

concrete imagination how an IPO works on Nasdaq and what to prepare for the IPO.

Furthermore managers have only a vague idea what really happens in an Investment

Bank during the process.

1.2 Structure of the Master's Thesis

Chapter 2 intends to compare the US Capital Markets with the most important

European Capital Markets performances. The chances and risks of IPO's and the

successful IPO sectors in 1999 in the US are illustrated by a set of empirical data.

This empirical data gives detailed information for all IPO's floated on Nasdaq

between 1999 and 2000 (see annex). All information about the procedures of an IPO

(see chapter 8 and 9), must be read and used in connection with all applicable

information from the US financial and capital markets, as well as the laws and

regulations of Nasdaq and the SEC (Security Exchange Commission) (see chapter

1.3).

The author gives in chapter 8 an overview about the American Capital Markets

such as the Nasdaq and its sub-indices. As already mentioned the reader should get

detailed background information about the Nasdaq Market Structure, the Fees and

Listing Requirements. But the main focus should be put on the Management

Considerations and Parties involved in an IPO process. The last chapters explain the

costs, chances and risks for IPO's on Nasdaq. As already stated above, it is

important to see the IPO processes and parties involved in a Going Public on Nasdaq

For particular reasons NASDAQ is written as Nasdaq.

For more detailed information, see Bloomberg and Reuters Business Briefing.

-3-

during 1998 and 2000 in connection with America's economic expansion. America's

current economic expansion is already by far the longest in its history. If the economy

proves to have grown during the second quarter of this year--opinions are divided on

whether it will--then the expansion is exactly ten years old. This means that it has

lasted more than twice as long as the average expansion since the second world

war.

1.3 Macroeconomic Basis

In the Bible, seven years of plenty were followed by seven years of lean.

Business cycles have never been that regular. Since 1945, expansions have varied

in length from 12 months to the current 120 months and counting (assuming the

economy has not already contracted). Recessions have ranged from six months to

16. The deepest modern recession was in 1973-75, when output dropped by 3.4%

from peak to trough. The shallowest was in 1969-70, when output barely dipped (see

table 1).

Table 1: History of the US recessions

No two cycles are identical, yet the pattern during the past half-century has

been reasonably familiar. After several years of expansion, aggregate demand

outpaced supply. This causes inflation to accelerate. The Fed raises interest rates,

which squeezes demand. As inventories build up, firms cut production. The economy

moves into recession. Next, the Fed cuts interest rates. Demand recovers, and so

does output. The next expansion has begun. This sequence once prompted Paul

Economist: Finance and Economics Profits? What Profits?, October 19, 2000.

-4-

Samuelson, one of the past century's most celebrated economists, to remark that

American recessions come stamped "Made in Washington by the Federal Reserve".

This time, if the economy does move into recession, it will not be because of high

interest rates. Every recession during the past four decades has been preceded by a

marked rise in inflation. During this expansion, inflation has remained relatively

subdued. As a result, the Fed raised interest rates by only one percentage point

between the summer of 1998 and their peak in 2000; real interest rates actually fell

slightly over that period. Demand is currently weakening not because of a sharp

increase in interest rates, but because of factors such as weaker profits, falling share

prices and falling investment.

Economists at Goldman Sachs, have long been warning about the "dark side

of the new business cycle". Greater vigilance from central banks, industrial

deregulation and ample productive capacity (as a result of strong investment) have

all helped to hold down inflation. Deregulation and new technology may also have

made it easier for firms to avoid the build-up of unwanted staff and inventories,

another precursor of traditional recessions. As a result, the expansion has endured

for longer than usual. The snag is that longer periods of expansion allow other sorts

of imbalance--notably, personal and corporate debt, and over-investment--to build

up instead. Lulled into a sense of security, with expectations of everlasting prosperity,

lenders relax their standards, and consumers and investors lose their inhibitions

about borrowing. Lenders and borrowers alike take bigger risks, though it does not

feel that way. Fuelled by credit and optimism about future profits, investment

increases and asset prices soar. Success breeds success--but then, at some point,

excess.

Eventually, over-investment reduces the return on capital and firms decide

to cut their spending on capital. Consumers feel overburdened with debt and

increase their saving. Optimism gives way to pessimism, and demand falls sharply. In

the 19th and early 20th centuries, in fact, this was the typical business-cycle pattern.

The "investment boom and bust" model seems a far better way to understand the

current cycle than the usual one based on rising inflation and higher interest rates.

This has two important implications for policy. First, if the American economy does

now slide into recession, interest rates may be less effective than usual in reviving

demand. Consumers may be too intent on saving more, and businesses on reducing

Economist: Smoking and Steaming, May 11, 2000.

Economist: Finance and Economics Profits? What Profits?, October 19, 2000.

-5-

their debts and excess capacity, to pay much attention to a reduction of half a point

here or there in the Fed Funds rate. This, in turn, raises the possibility that the

recession, if it starts, could be deeper or longer than its recent predecessors.

Second, idle as it may be to point this out now, interest rates should have been

raised earlier in the expansion. With hindsight, the reason for this was not to deal with

the risk of imminent inflation, as some, including this newspaper, argued at the

time--incorrectly, as it turns out. The reason was that it would have been better to

temper the boom, curb over-investment and restrain the rise in equity prices. The

cost of that policy would have been somewhat slower growth. The benefit would have

been an economy that is not so financially extended--one that is less, as it may

prove, financially fragile. There is another way to look at it. Suppose that the

technological revolution of the late 1990s lifted the return on capital and increased

opportunities for profitable investment. It probably did so--if by less than the new-

economy zealots argued at the time, then by more than the recent wave of new-

economy pessimists now suppose. This increase in profitable opportunities means an

increase in the demand for capital. It raises the equilibrium real rate of interest, the

rate at which the long-term supply of capital (saving) matches the long-term demand

for it (investment). But real interest rates have not risen, nor has the domestic supply

of capital (despite the government's budget surplus). American households are

saving less, much less: they now have "negative saving", spending more than their

income. Monetary policy that was "neutral" in the face of a breakthrough in

technology would allow real interest rates to rise a bit. If instead the central bank

holds interest rates down, this will further fuel the investment and stock market boom,

and further depress personal saving. An important implication is that it is not enough

for central banks to focus narrowly on consumer-price inflation. They also need to

keep a keen eye on asset-price inflation, rapid credit growth and saving-investment

imbalances. Admittedly, this is exceptionally difficult at a time when, thanks to a

boom in investment, capacity has expanded and inflation is under control. Nobody

said monetary policy is easy. America's recent combination of a sustained boom in

business investment together with a deep slump in household saving is historically

unprecedented. As a result, private-sector net saving, the difference between the

total saving and investment of households and firms (that is, the extent to which they

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need to borrow to finance their spending) has moved dramatically, from a surplus of

5% of GDP in the early 1990s to a deficit of 6% last year (see table 2).

Table 2: US private-sector net savings

1.4 Similar developments between Japan and the US

The path of share prices in America over the past decade looks similar to that

of Japan in the 1980s. Since the Tokyo stock market peaked in 1989 share prices

have fallen by 70%. In America, only Nasdaq has threatened to challenge that

achievement: it is down by around 55% since its peak in 1999. So far, America's

widest stock market index, the Wilshire 5000, has fallen by a modest 20%, and the

Dow Jones Industrial Average by less than that.

At the beginning of 2000, American households owned shares worth 180% of

their disposable income. When the Tokyo stock market peaked in 1989, households'

shareholdings were worth only 90% of their income. But America has had a

technological revolution. That is not to claim that American firms and banks have

been as prudent as they should have been. Far from it. There has been a clear

deterioration in the quality of lending and default rates are at their highest since the

last recession. Many companies have taken on huge amounts of debt. And American

tech-stock analysts have pioneered some shady accounting practices the Japanese

never dreamed of. All in all, though, the American economy, despite its financial

overstretch, looks sounder now than Japan's was before the crash.

America,

however, does have two disadvantages, which will make things harder for the

Economist: Finance and Economics Profits? What Profits?, October 19, 2000.

Economist: Smoking and Steaming, May 11, 2000.

-7-

Federal Reserve. First, America's personal saving rate is now negative; Japanese

saving remained high. If American share prices fall and unemployment rises,

households could feel under greater pressure to increase their saving abruptly.

Second, Japan had a large current-account surplus when the bubble burst; America

has a large deficit. This makes it more vulnerable to a run on the dollar if foreign

investors lose their appetite for American assets. A falling dollar would complicate

monetary policy. The character of this current cycle, and the similarities it highlights

between America now and Japan in the 1980s and 1990s, are enough at least to

raise the possibility that America may face a recession in 2001.

1.5 Introduction to Investment Banking

Let me now come back to the title of this Master's thesis: Consideration for an

Equity Underwriting on Nasdaq from the Perspective of an Investment Bank.

It seems very obvious that investment bankers facilitate the flow of money between

users and providers of capital in the international financial and capital markets.

Because those who desire to raise capital are called "issuers", since they issue

ownership in their enterprises (equities) or obligations (bonds, convertible notes) from

their enterprises in exchange for cash or cash equivalents and those who provide

capital are called "investors", since they must invest cash or cash equivalents in

exchange for those rights of ownership or obligations. Investment bankers therefore

act as relationship managers between companies and investors in the sense that

they enable issuers to raise the capital and investors to place the capital in the most

confident and efficient manner for both.

Investment banking is a dynamic,

competitive and exciting industry characterized by very large important transactions,

massive deal flow and continuing transformation.

Financial instruments have grown more complex as financial intermediaries

around the world have become more competitive, seen by the last consolidations in

the banking sector in 1999 and 2000 (between BNP and Paribas, Chase Manhattan

and JP Morgan, CSFB (Credit Suisse First Boston) and DLJ (Donaldson, Lufkin &

Jenrette), Rothschild and ABN Amro, Deutsche Bank and Bankers Trust, Dresdner

Bank and Wasserstein Perella, Salomon Smith Barney & Citigroup & Schroders,

http://www.economist.com/library/america_japan.html

March 21, 2001.

Lawrence Kuhn, R. (1990): Capital Raising and Financial Structure Volume II of the Library of Investment

Banking. Illinois: Business One Irwin. 3-4.

-8-

Chase and Beacon Group).

As a consequence of the complexity and competition

among financial markets ( i.e. London Stock Exchange and Frankfurter Boerse) firms,

products and techniques are merging and melting together and give investors the

impression that barriers between countries are eroding. It is this volatile environment

and the increased pressure on investment banks and financial institutions to offer

more global and comprehensive products that have driven consolidation in the

investment banking industry. Such consolidations make it very difficult to give a clear

definition of "Investment Banking" as the organizational structure and specific

functions vary from firm to firm. Every major Wall Street firm ("bulge bracket firm")

covers capital markets activities like fixed income and derivatives, underwriting and

corporate finance, merger and acquisitions (M&A), asset management and research

venture capital and private equity (first definition).

Investment Banking in the

narrower and more restrictive sense includes leveraged finance, structured finance,

private equity, venture capital, underwriting and M&A activities (second definition).

The narrowest definition takes investment banking back to its historic foundations,

defining it as the underwriting and capital raising activity in the primary markets and

the trading of securities in the secondary markets (third definition).

I have chosen in

this thesis to focus on the second definition of investment banking, targeting one of

the main areas within financing and capital raising: the Initial Public Offering, "Going

Public".

1.6 Introduction to Going Public

Stock analysts were asking themselves at the end of the year 2000 why IPO

stocks in the past years, especially in 1998 and 1999 have soared to such extreme

heights and extreme crashes in 2000 (see empirical data in annex). To understand

fully the IPO price surge in the 1990s, one must consider two very important factors.

The first factor is the excellent macroeconomic development of the US economy in

the 1990s (see chapter 13), under the Clinton administration. The second factor is

the extremely effective strategy of the Federal Reserve in the last several years

under Chairman Alan Greenspan. For still fuller context, it is helpful to go back to

Bloomberg (2000): Steward R., Sheldrick A., Cope D., News Ticker September 14

Lawrence Kuhn, R. (1990): 5-7.

Lawrence Kuhn, R. (1990): Introduction.

-9-

1989. On the Nasdaq, since 1989 over 4200 new companies have been brought into

the public markets.

This figure incorporates over $154 billion dollars in new capital

raised to support new businesses. This would not have been possible without a

strong infrastructure (US financial markets that were the envy of world financial

markets), strong financial services industries and a rigid regulatory structure of

Nasdaq. Some of the various benefits of going public's for companies are an

increased ability to scale the business, an increased ability to provide equity

ownership to management as incentive, and increased ability to use stock as

acquisition currency.

One might not know that Nasdaq companies have created an

extremely high amount of jobs during the past. A study from the US House of

Representatives, conducted between 1990 and 1995 showed that one out of every

six new jobs in the United States was created by a Nasdaq company. Nasdaq

companies only account for less than one percent of all companies in the US, but

they account for a disproportionate percentage of the job growth that occurred over

the last several years. Compare Fortune 500 companies, which cut over 200,000

jobs during that same period. When Nasdaq first started, the primary mission was

capital formation. So companies that didn't have profits, which were typically in

relatively new industries such as biotech and internet, had the opportunity to come

into the public markets.

Companies such as Intel, Microsoft, Oracle have been at

the forefront of this IPO boost since the1980s.

1.7 "Going Public" Defined

The term "Going Public" generally refers to a closely held company's first

interstate sale of securities to the general public. In order to go public, a company is

required to file with the Securities and Exchange Commission (SEC) a registration

statement that is in compliance with the Securities Act of 1933 (the '33 Act) as well as

the Securities Exchange Act of 1934 (the '34 Act).

(The securities Act of 1933 and

the Securities Exchange Act of 1934 led to the creation of the Security Exchange

Commission (SEC), which is responsible for gathering and publicizing relevant

information and for punishing those issuers who supply fraudulent or misleading

Hearing Transcript, House of Representatives (October 14th 1999): Statement of John T. Wall, COO of

Nasdaq-Amex International.

Abozzi F., Modigliani F. (1996): Capital Markets. New Jersey, Prentice-Hall.1-29.

Hearing Transcript, House of Representatives (October 14th 1999): Statement of John T. Wall, COO of

Nasdaq-Amex International.

Downes J., Goodman J. (1995): Dictionary of Finance and Investment Terms, Barron's 223.

-10-

data.)

The '33 Act mandates certain disclosures for registration statements. Its

objective is to ensure that a company selling securities on an interstate basis

discloses relevant information about the company (its business, risks, competition,

financial condition, results of operations, planned transactions, officers and principal

shareholders) and the securities being offered (type, rights, risk factors and use of

proceeds). The purpose of the disclosures is to allow investors to make informed

decisions about whether to invest in the company's securities. The SEC administers

both the '33 and '34 Acts. All initial public offerings are reviewed by the SEC. The

SEC does not judge the merits of an offering. Rather, its review focuses on whether

all of the required disclosures have been made in the registration statement.

Abozzi F., Modigliani F. (1996): 29.

Abozzi F., Modigliani F. (1996): 30.

-11-

2. European Financial Markets

This chapter should give very briefly an overview about the main European

indices and competitors for the Nasdaq and later on the significance of correlation

between stock exchanges. Especially the last performances on the New Technology

Markets such as Neuer Markt, Nouveau Marché, Euro NM and Easdaq should point

out the significance and impact of Nasdaq on the European markets (see table 4).

Furthermore three key aspects should be highlighted in this context: First the

transaction costs, which reflect the cost efficiency, the equity turnover, which reflects

the profitability of a stock exchange and finally the regulatory costs, which reflect the

attraction of a bourse. Traditionally, one way that investors sought to reduce risk was

by diversifying overseas: when American shares slumped, the loss there would be

offset by a gain in, say, European shares. That, at any rate, was the theory. In recent

years, however, stock markets seem to have moved more closely in step with one

another. Globalisation and the information-technology boom appear to have

increased the importance of worldwide factors in steering share prices, at the

expense of local country factors. A severe profits warning from a big high-tech firm in

America, for example, is now likely to hammer high-tech share prices all around the

world. The correlation between changes in American and European share prices has

risen from 0.4 in the mid-1990s to 0.8 last year. Crudely, that means that movements

on Wall Street can explain 80% of price movements in Europe. (A correlation

coefficient of zero implies no relationship at all; a value of one means that they move

perfectly in step.) Markets were as highly correlated as this for a while in the late

1980s, but the long-term trend is upward.

2.1 Europe's performance

In Europe the single currency (EURO) and the EMU (European Monetary

Union) have strongly suggested that there should be considerable economies of

scale in trading equities, since the fixed costs for an electronic system are substantial

and marginal costs are not. A recent research from the Bank of Finland has shown

that cost efficiency rose rapidly with total share volume.

The cost-efficiency of stock

exchanges continues to vary widely.

In 1999, the Bank of Finland conducted a

Bank of Finland (2001): Financial Markets Statistical Review.

Seifert G., Achleitner A. (2000): European Capital Markets, Macmillan Press Ltd.24-34.

-12-

comparative study of overall cost efficiency, using the latest available set of published

accounts. The author's method was to regress total cost on trading volume and the

number of firms listed, as well as a set of control variables. Very briefly explained, the

residuals of this regression and therefore the unexplained part of cost variation

adjusted for the economies of scale gives the main results. In 1997 the New York

Stock Exchange(NYSE) was by far the most cost-efficient stock exchange, before

Nasdaq. The AMEX and Tokyo came at the bottom of the list. Of the three main

continental rivals, Germany scored best, followed by London and then, at some

distance behind, Paris. I consider it as important to note that the efficiency model

underlying the Bank of Helsinki ranking did not take more into account than

proportional cost reduction as a result of economies of scale, which may be

substantial. 1998 was a good year for most exchanges, with increases in volume

driven partly by strong equity markets. In terms of year-over-year growth, Germany

topped the table in 1998, with the value of shares traded surging ahead by almost

half. The UK was second with 43 percent, followed by the Netherlands and France.

London continued to be the largest exchange in Europe in terms of total value of

traded shares. Its dominance in trading international equities was the driving factor,

contributing almost half of the total turnover.

Table 3: Stock Market Performance Europe, Source: Bloomberg

OECD (2001): The Highlights of Recent Developments in Financial Markets, March 26, 2001

Stock Market Performance

50%

75%

100%

125%

150%

175%

200%

225%

26 Mar 98

10 May 98

25 Jun 98

09 Aug 98

24 Sep 98

09 Nov 98

24 Dec 98

08 Feb 99

26 Mar 99

NMax

Nouveau Marche

Neuer Markt

Euro NM Brussels

-13-

The cost-efficiency of stock exchanges can also be compared by examining

the share of trading "lost" to the worlds' largest exchanges, the NYSE and Nasdaq.

However it is interesting to note that US investors, especially big institutions, seem to

switch trading to the NYSE or Nasdaq once there is a dual listing (an IPO of a share

on the domestic and US market). The number of domestic listings in the UK

continues to be notably larger than in the two continental financial centers combined.

But while in Germany and France the number of listings has grown by an average of

13.3 and 6.9 percent per year, the UK has actually experienced a decline by 11.6

percent in 1998. Within Europe, most markets have seen relatively high levels of

equity issuance in the last few years. In 1998 the UK continued to dominate in terms

of total issuance, followed by France and Germany.

From my point of view the main

reason for this UK dominance in Europe might be that - for all their success in

attracting more listings recently - Paris and London still only have a fairly small

number of staff dedicated to equity origination and equity syndication. London has 72

percent of senior staff in the four leading European centers, with Frankfurt at 15

percent and Paris 12 percent of the total.

Regulations cause costs at three levels.

First there is the direct cost of regulators' pay and the enforcement process. Second

compliance with national rules and regulations can also impose costs on firms, which

can be very considerable, but are hard to estimate. Third, firms suffer very real

disadvantages if they are unable to construct certain kinds of transactions or are kept

from making certain improvements to their process due to regulatory barriers.

Securities trading is the area that attracts the highest regulatory costs due to the

complexity and frequency of transactions involved. The UK has the lowest regulatory

costs in securities trading out of UK, Germany and the US. France has regulatory

costs almost four times as high as the UK, with the US in a middle position.

Investment Management can also be heavily regulated, and causes considerable

costs in the UK. In the US and France, the cost is much lower.

In the 1990's, stock

market performance across Europe has varied substantially. Average nominal returns

have been most spectacular in Switzerland and the UK, but accounting for risk,

neither one of them has matched the US in terms of performance. The German

equity returns marginally outpaced the British ones, but only at the expense of

considerably higher volatility. Whereas UK domestic investors had to accept volatility

Seifert G., Achleitner A. (2000): Introduction.

Seifert G., Achleitner A. (2000): 24-34.

Seifert G., Achleitner A. (2000): 34ff.

-14-

on a scale of 14.4 percent annually, the figure for Germany was 19.6 percent. French

investors in their own market experienced volatility on the same scale as Germans

but received a lower return overall. Of all European markets, Italy fared worst, with

both the lowest return and the highest volatility of all markets considered.

In this

section I am not going to go into detail about the past Easdaq performance, except

showing it as benchmark versus Euro NM and Nasdaq in the following graphs.

However I would like to point out the special position of the German Neuer Markt.The

most successful addition to the German equity market has been the introduction of

the Neuer Markt in 1997 with the listing of young and medium sized firms on the

specially created market. By any standard, the Neuer Markt has turned in a

spectacular performance. From 1997 to 1999, volatility was only marginally higher

than in the German stock market at large. New markets in Benelux countries also

offered attractive returns without extreme high volatility. At the bottom of the

performance table was until recently the Nouveau Marché, the French equivalent to

the Germany's Neuer Markt

Table 4: Stock Market Performance Europe vs. Nasdaq, Source: Bloomberg

Seifert G., Achleitner A. (2000): 54ff.

Seifert G., Achleitner A (2000): 56.

Stock Market Performance

50%

75%

100%

125%

150%

175%

200%

25 Mar 98

09 May 98

24 Jun 98

08 Aug 98

23 Sep 98

08 Nov 98

23 Dec 98

07 Feb 99

25 Mar 99

Euro NM

Nasdaq

Easdaq

-15-

2.2 Correlation between countries

By breaking down movements in share prices into global effects, country-

specific effects (such as different economic cycles), and firm-specific effects, a new

study

by economists at the IMF tries to find out what percentage of a stock's

performance is due to global rather than country factors. The study is more

geographically comprehensive than previous studies on the subject. It includes

around 5,500 firms in 21 developed and 19 emerging economies, covering nine-

tenths of these countries' total stock market capitalisation. Firms were grouped into

ten industrial categories, such as basic industries, IT, and financials. The authors

then calculated the monthly returns in dollar terms during the period from March 1986

to August 2000. They used the data to build a model that estimates over time the

percentage of the total movement in share prices that is explained by changes in

global factors, as opposed to country-specific ones.

The model distinguishes

between two kinds of global factor: the global business cycle; and global-industry

effects that similarly influence firms in the same sector, but in different countries. The

authors also measured the relative importance of what they call the global "new

economy" factor--that is, of movements in the prices of high-tech stocks in

determining overall returns. The study finds that there has indeed been a big

increase in the importance of global factors--of both kinds--in explaining movements

in share prices since the mid-1990s. In developed countries, the country-specific

factor has meanwhile fallen. But in some emerging markets it has sharply increased

since Asia's financial crisis in 1997-98. The increased importance of global factors in

the IMF's model could be confirmation that equity markets have become more

integrated. Alternatively, it could simply reflect the fact that stock markets tend to be

more correlated at times of high volatility in share prices; during calmer periods,

correlations tend to be weaker. That partly explains why the importance of global

factors follows a U-shape: high in the late 1980s and early 1990s, then high again in

the second half of the 1990s. The early period covered the 1987 stock market crash

and the Gulf war; the latter period, the Asian crisis. The importance of the global-

industry effect on share prices has been increasing. In recent years, it has accounted

for 28% of the variation in stock returns, compared with 11% in 1988-91. The fact that

a firm belongs to a particular industry--be it telecoms or utilities--has become more

important in explaining variations in returns over time. A firm's home country has

Brooks, Robin: The New Economy and Global Stock Returns, IMF Working Paper 216, December 2000.

-16-

become less important. It seems that if investors are to reduce risk these days, they

should diversify more by industry than by country. Diversification by country offers

less protection than it used to. The increased correlation between shares in recent

years is due to more than just the Asian crisis. By far the most important global factor

explaining increased correlation has been information technology; movements in IT

shares are much more highly correlated than non-tech stocks. According to other IMF

work, the correlation between European and American IT shares between January

1999 and May 2000 was 0.85; for non-IT stocks it was just 0.54. IT shares in Asia

and America had a correlation of 0.75, non-IT shares only 0.35.

The paper, which was written before the latest plunge in markets, is silent on

the question of how much of the surge in high-tech shares was a bubble. But it warns

that if it was a bubble, then high-tech stocks may be a new channel for financial

contagion to spread throughout the world economies.

Brooks, Robin: The New Economy and Global Stock Returns, IMF Working Paper 216, December 2000.

-17-

3. American Financial Markets

The following chapters will introduce the reader very briefly to the most facts of

the US financial markets, explaining the main stock exchanges and their histories in

context with Nasdaq. However the main focus is on Nasdaq and its advantages

compared to NYSE, Easdaq and Euro NM (see tables 6 and 7). Interesting enough is

the broad diversity of industries on Nasdaq (see chapter 3.5), seen in the sub-

indices. Another important element in this context is the calculation of the Nasdaq

Indices. (see chapter 3.6)

Table 5: US Indices History, Source: Bloomberg

3.1 NYSE

In the 1790s, a group of stock brokers traded outdoors in the streets of the

financial district in New York.

The curb brokers generally dealt in the stocks of

smaller companies. By 1900, they were conducting business on Broad Street near

Downes J., Goodman J. (1995): Dictionary of Finance and Investment Terms, Barron's. 450.

US Indices History

1,000%

2,000%

3,000%

4,000%

5,000%

6,000%

7,000%

8,000%

9,000%

1927

1938

1948

1959

1969

1979

1990

2000

erformance

Russell 3000

Nasdaq

Dow Jones

NYSE Composite

NYSE Industrial Index

Amex Maj. Index

Amex Composite

S&P 500

-18-

the NYSE building. In 1921, the Curb Market moved indoors to a new building on

Trinity Place and in 1953 changed its name to the American Stock Exchange.

The New York Stock Exchange traces its origins to a founding agreement in

1792. The NYSE registered as a national securities exchange with the US Securities

and Exchange Commission in October 1, 1934. The governing committee was the

primary governing body until 1938, at which time the exchange hired its first paid

president and created a thirty-three member board of governors.

The board

included exchange members, non-member partners from both New York and out-of-

town firms, as well as public representatives.

Today the NYSE marketplace is aided

by advanced technology, public orders meet and interact on the trading floor with a

minimum of dealer interference. the result is competitive price discovery at the point

of sale. Liquidity in the NYSE auction market system is provided by individual and

institutional investors, member firms trading for their own accounts, and assigned

specialists. the NYSE is linked with other markets trading listed securities through the

inter market trading system (ITS).

NYSE-assigned dealers, known as specialists,

are responsible for maintaining a fair and orderly market in the securities assigned to

them. Most trading, however, is conducted by brokers acting on behalf of customers,

rather than by dealers trading for their own account. For this reason, the NYSE is

often described as an agency auction market. the interaction of natural buyers and

sellers determines the price of a NYSE-listed stock. during the past years the NYSE

represented by the Dow Jones index has been the most successful index out-

performer worldwide.

3.2 AMEX

The AMEX is an open-auction market similar to the NYSE where buyers and

sellers compete in a centralized marketplace. The AMEX typically lists small- and

mid-cap stocks.

http://www.nyse.com/about/about.html

, March 12, 2001

http://www.nyse.com/about/about.html

March 12, 2001

Downes J., Goodman J. (1995): Dictionary of Finance and Investment Terms, Barron's. 450ff.

http://www.nyse.com/about/about.html

March 12, 2001

Johnson, H.J. (1999): Global Financial Institutions and Markets. Malden: Blackwell Publishers Inc. 108ff.

Johnson, H.J. (1999): 90-108.

Details

Seiten
Erscheinungsform: Originalausgabe
Jahr: 2001
ISBN (eBook): 9783832449889
ISBN (Paperback): 9783838649887
DOI: 10.3239/9783832449889
Dateigröße: 2.4 MB
Sprache: Englisch
Institution / Hochschule: Wirtschaftsuniversität Wien – unbekannt
Erscheinungsdatum: 2002 (Februar)
Schlagworte: nasdaq investmentbank börsengang

Autor

Johann Sebastian Kann (Autor:in)

Considerations for an Equity Underwriting on Nasdaq from the Perspective of an Investment Bank

Zusammenfassung

Leseprobe

Inhaltsverzeichnis

Details

Autor

Johann Sebastian Kann (Autor:in)