Problem 18-5 Pricing Stock Issues in an IPO Zang Industries has hired the invest
ID: 2728904 • Letter: P
Question
Problem 18-5
Pricing Stock Issues in an IPO
Zang Industries has hired the investment banking firm of Eric, Schwartz, & Mann (ESM) to help it go public. Zang and ESM agree that Zang's current value of equity is $61 million. Zang currently has 3 million shares outstanding and will issue 1 million new shares. ESM charges a 6% spread.
What is the correctly valued offer price? Round your answer to the nearest cent.
$
How much cash will Zang raise net of the spread? Round intermediate calculations to two decimal places. Round your answer to three decimal places. Enter your answer in millions. For example, an answer of $1.2 million should be entered as 1.2, not 1,200,000.
$ million
Explanation / Answer
Calculaion of Correct Offer Price:
We need to follow below mention procedure and formulas only in a case where Number of new shares issued are given.
Given,
New No. of Shares(NNew) : 1 Million
Existing No. of Shares(NExisting) :3 Million
Current Value of Equity/Value of Equity before IPO (V pre-IPO) : 61 Milion
Percentage Spread (F) : 6%
Formula for calculating the offer price in given situation : Offer Price = (V pre-IPO)/((NExisting) + F(NNew))
= 61/(3+ 1*.06)
=19.93/-
Cash to be raised by Zang Industries: No. of Shares Issued(Net of Spread) * Offer Price Per Share
=1 Milion(1-.06) * 19.93/-
=18.73 Million
Points for Understanding:-
1. For better understanding assume that spread is 0%, now offer price will be 61/3= 20.33/-. Due to spread 6% offer price declined to 19.93/-. Due to spread, current value of equity is dividing among current shareholders as well as underwriters. Here we are dividing the current value among underwriters because they are subscribing to shares without contributing a single penny.
2. There are two thumbrules that new shreholder shall invest only if:
a) His stake in company shall be equal to = Total Value of Company * %age shareholding
=(61+1(1-.06)*19.93) * 25%
=(61+18.73)*25%
=19.93 Million
Here %age shareholding of new investor is 25% i.e. (1Millon/4Million)*100
b)Total amount paid by him = Offer Price * No. of New Shares
=19.93*1*(1-.06)
=18.73