When we talk about capital markets, one of the most important feature that I can think of is of ‘Capital Raising’ - after all most of the companies do need capital to invest for their long term prospects. Companies can raise it by issuing two types of instruments – Equities and Bonds, as learned in the financial analyst course.
The issuance is done via a process called Initial Public Offer. As part of the process, companies need to prepare a document called a Prospectus.
A prospectus is a legal document (filed with the regulator of the respective country) that is an invitation to the general public to buy securities from the company. As a document, it contains a lot of information about the company – from the history to its present – including the reason for raising capital. In other words, the main aim for such a document is to help all potential investors in making an informed investment decision on whether they should or shouldn’t invest in the company. Prospectus’ are generally very lengthy as they need to contain all the requisite information (can run into 700+ pages).
Some of the main sections of a prospectus include:
- Product/Services of the company
- Its financials (assets, liabilities etc.)
- Goals & business plans
- Risks that the business faces
- Competitors of the firm and their impact
- Other factors in the economy that will impact the firm
Golden rules for prospectus preparation
- Only the true nature of the company businesses should be disclosed
- Strict and specific accuracy shall be maintained throughout the document
- In addition to other mandatory disclosures, the company should voluntarily disclose any info that it deems to be
a fair representation of itself
In case there have identified any misstatements during the invitation to the public, the directors of the company, promoters and people authorized in issuing the prospectus will be liable to punishments/penalties and fines (all three if you ‘really’ lucky). There have been many lawsuits that have been brought by the Registrar of companies incase companies have not utilized or mis-utilized any of the proceeds from the IPO .
There are two main types of prospectuses, as learned in certification courses in finance.
- The preliminary prospectus is the first offering document provided by a securities issuer. Some lettering on the front cover is printed in red, which results in the use of the nickname "red herring" for this document
- The final prospectus is printed after the deal has been made effective and can be offered for sale, and supersedes the preliminary prospectus. It contains finalized background information including such details as the exact number of shares/certificates issued and the precise offering price
Let's now look at a recent IPO (Interglobe Aviation Limited) and review a bit of the information provided
- At the start, they have provided the date on which the company was formed (Jan 13, 2004) and the date on which they renamed themselves
- The IPO will help them raise capital with a value of Rs 1,272.20crs and additional sale of 26,112,000 equity shares by the promoters
- Refer to the risks of the issue, general risks and the responsibility of the company in the issue
- The Global book runners and lead managers of the issue (Citi Global Markets, JPM India, Barclays bank, Kotak Bank and UBS)
- The registrar of the issue is Karvy Computershare Pvt Ltd.
- Since the capital is being raised for future investments, the company also includes statements such “Forward-looking statements reflect our current views with respect to future events and are not a guarantee of future performance”
- Some of the risks that could derail the company include:
- How effectively we apply the low-cost air carrier model to the markets in which we operate or plan to
- Operate and how successful we are in implementing our growth strategy
- Inability to profitably expand to new routes
- Inability to continue to negotiate reduced prices in future aircraft purchases
- Significant amount of debt that we have taken and which we may take in the future to finance the acquisition of aircraft and our expansion plans
- Availability of fuel and internationally prevailing fuel price including taxes
- Depreciation of the rupee against the US dollar
- Event of an emergency, accident or incident involving our aircraft or personnel
- Inability to obtain regulatory approvals in the future or maintain or renew our existing regulatory approvals
They go into detail and list of 68 risks that can affect a company. If you observe, any of the above statements can easily come true and have a major impact on the company. But such information has to be provided to the investors. This comes back to a point which I had mentioned earlier – ‘help all potential investors in making informed investment decisions’
The prospectus also refers to all litigation cases (for and against the company).
Overall, the role of a prospectus is crucial as it lists both the positives and as well as the negatives that a company can offer to the public. This will therefore provide a clear cut idea to help investors decide if they are willing to invest in the company.