An Introduction to Corporate Finance

Transactions and Techniques

Ross Geddes

• Publisher: Wiley
• Year: 2011
• Print ISBN:
  9780470026755
• Edition: 2
• eBook ISBN:
  9781119994947
• Topic: Business
• Subtopic: Finance
• Index: Business

An Introduction to Corporate Finance provides the reader with a complete overview of Corporate Finance from perspective of the investment Banker. The author, a corporate trainer and former investment banker clarifies the role of the investment banker in numerous corporate finance transactions, including mergers & acquisitions, IPO's, and valuation. Given today's corporate climate, every student studying corporate finance and those working in the field need this book to sharpen their skill set.

Chapter 1

‘BEHIND THE CHINESE WALL’

corporate adj. 1. forming a corporation; 2. forming one body of many individuals; 3. of or belonging to a corporation or group.

finance noun 1. the management of (esp public) money; 2. monetary support for an enterprise; 3 (in pl) the money resources of a state, company, or person.

The Oxford English Dictionary, 2nd Edition, 1989 by permission of Oxford University Press

Thus, corporate finance – a phrase relating to how companies obtain and use finance to grow their business. In the City, on Wall Street and wherever banks and investment banks congregate, corporate finance takes on a specific meaning.

This book has three goals: to provide a description of some of the major corporate finance transactions; to describe the role of corporate financiers in such transactions; and to introduce the main valuation tools used in the transactions.

CORPORATE FINANCE IN INVESTMENT BANKING

Corporate finance tends to become more narrowly focused when one talks to an investment banker or investment bank. Corporate finance departments advertise their abilities to provide advice and complete transactions in the following areas:

• Mergers, Acquisitions and Divestitures (M&A).

• Financial Advice (capital structure and fairness opinions).

• Flotations/Initial Public Offerings (IPOs).

• Further Equity Offerings.

Note that the last two in the list, relating to equity fundraising, are often placed in a separate department called Equity Capital Markets (ECM) (see below).

Corporate finance is about building relationships with companies as much as it is about transactions. Before we describe the roles of the corporate financier in the above transactions, we need to place the corporate finance department in the context of an investment bank.

CHINESE WALLS

Corporate financiers are said to work behind Chinese Walls – separating them from other members of the firm, in particular those who have daily contact with investors. The name, presumably, is taken from the Great Wall of China.

Chinese Walls are established arrangements in the form of procedures, systems, management and physical location which act as barriers within a firm to ensure that confidential information which is generated by one part of the firm or obtained from a client in one part of the firm (i.e., Corporate Finance) does not penetrate another part of the firm (i.e., Research, Sales and Trading).

They exist (or should do) in any integrated securities firm, investment bank, accounting firm or any other organisation where some members of the firm have access to and deal with information that could affect the share price of clients. Strengthening Chinese Walls became increasingly important in the aftermath of the ‘Internet Bubble’ of the late 1990s and early 2000s. Research analysts, particularly in the US, became highly involved in IPOs and further equity offerings, where they should not have done.

Corporate finance departments in large investment banks are almost always located on a separate floor than other departments. In some cases, at the largest banks, the corporate finance team may even reside in another building. At the very least, access is restricted in the corporate finance area to those who work there or escorted visitors who are signed in and out.

Chinese Walls provide a mechanism for firms to function as multi-disciplinary operations. Without Chinese Walls, a firm could not offer both corporate finance advice and research, sales and trading with clients. They work like porous membranes that allow information to flow only in one direction as illustrated in Figure 1.1.

Corporate financiers’ work involves ‘price-sensitive’ information. Knowing that Company A plans to bid for Company B would send B’s share price shooting up if the information found its way to the market. If a sales-man in the investment bank working on the bid discovered the potential bid as a result of weak Chinese Walls, he or she potentially could feed the information to selected clients who would benefit illegally from this inside information on announcement of the bid.

Figure 1.1 Information flow through the Chinese Wall – arrows represent the flow of information, and its direction.

If Company C plans to raise funds through a new equity issue, the Chinese Wall should be maintained until announcement, as share prices typically drop on announcement of new issues. A party with inside information, gained from a leaky Chinese Wall, would be able to sell shares prior to the announcement of a new issue and buy them back at a lower price following the offering’s announcement.

In order to advise clients, corporate financiers must receive information regarding the market, investors’ attitudes, etc. from research analysts and salesmen who are in contact with investors. However, the confidential corporate information received by corporate financiers must not flow in the other direction as it could have an impact on the price of the shares.

CORPORATE FINANCE ASSIGNMENTS

The following paragraphs contain summaries of the corporate finance role in major corporate transactions.

Flotations/IPOs

The IPO of any company is one of the most important moments in its corporate life – it only happens once, and while companies can become skilled at acquisitions and divestitures, they do not get practice of IPOs. Thus, the role of the corporate financier in guiding companies and their management to market is crucial.

Many investment banks have specialist departments that sit alongside corporate finance – called Equity Capital Markets (ECM). ECM professionals specialise in the flotation of companies and any subsequent equity offerings. Throughout the book, I refer to ‘corporate financiers’; in sections relating to equity new issues (Chapters 3-5), the reader should understand that a person in ECM would be doing the same job.

The corporate finance team co-ordinates the flotation process from start to finish. Figure 1.2 provides a schematic of the interested parties in a flotation. The corporate financier keeps everything together: he or she is the main interface with the company, although solicitors, accountants and investor relations people also sit around the meeting table.

Figure 1.2 Parties involved in flotations and M&A.

Chapters 3 and 4 provide a full description of the flotation process, from both the domestic and international perspective. The following paragraphs briefly summarise the corporate financier’s role in these transactions.

The corporate finance team is usually the first appointed external advisor. It then aids the company in selecting the other advisors to work on the transaction. Corporate financiers provide advice on the capital structure, developing the investment story, appointing external directors, determining the timing of an issue and, generally, managing the project.

The team then co-ordinates the new issue timetable. From start to finish, the flotation process takes from 3 to 6 months, sometimes longer if there are particularly difficult corporate structuring issues to be resolved.

Corporate financiers deal with documentation (listing particulars, prospectuses, underwriting agreement) and the regulators. They are also responsible for the co-ordination of the different departments in their investment bank and members of the syndicate (i.e., equity research has been produced, the sales departments know the timetable and devote sufficient time to the new issue, etc.).

Finally, junior members of the corporate finance team are responsible for the organisation of the closing dinner; a gala affair for all the participants in the transaction that usually takes place a month or so after the shares have been trading on the Stock Exchange.

Rights issues/Secondary offerings

Corporate financiers and their equity capital markets colleagues perform much the same role in rights issues and secondary offerings as they do in flotations. They co-ordinate the work of the other advisors, lead the preparation of documentation, advise the issuer or vendor on the pricing of shares and so on.

There is one complication, and it can be a large one. During a rights issue, the company’s shares continue to trade in the stock market every day and the fluctuations in price can be large. The biggest disaster in secondary offerings was the offer of BP shares just before the Stock Market crash of 1987. Prior to the announcement of a sale of shares at 330 pence, BP′s shares had been trading in the 345p-355p range. The Stock Market crash occurred after the offering was underwritten (at 330p per share), but before it closed. Following the crash, BP shares traded well below 300p each, resulting in significant losses to the underwriters and sub-underwriters.

Mergers, acquisitions and divestitures

After flotation, a merger or acquisition is the most significant corporate event that most companies go through. Corporate financiers, acting alone or alongside strategy consultants, help senior management with planning for the future. They may recommend a divestiture, acquisition or joint venture, depending on the client’s strategic, operational and financial criteria. Once the client has decided what course of action to pursue, corporate financiers help in the ...

Table of contents

• The Securities & Investment Institute
• Title Page
• Copyright Page
• Dedication
• ABOUT THE AUTHOR
• Chapter 1 - ‘BEHIND THE CHINESE WALL’
• Part I - CORPORATE FINANCE TRANSACTIONS
• Part II - CORPORATE FINANCE TECHNIQUES
• Appendix - UK CORPORATE VALUATION METHODS: A SURVEY
• GLOSSARY
• ABBREVIATIONS
• ADDITIONAL READING
• INDEX