Page 129 - Initial Public Offering - An Introduction to IPO on Wall Street

stock of your business valuable to potential investors. However, there is an additional risk
associated with this method.

Jay Ritter in an article published by Forbes: “Why is Going Public So Costly?" says the
underwriter will use his discretion to decide the way the stock will be distributed among
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investors when there are more buyers than sellers at the existing price .
As per Ritter, underwriters are persuaded to set the price of the share lower than needed because
of the dynamics of the market and distribute a significant part of this underpriced product to
their preferred customers in exchange for a fee. This leads to money for the filing business
being left on the table, while the underwriters make a sizeable profit.

In comparison, Ritter states that “all investors who indicated [while the roadshow was active]
that they are ready to pay more than the offer price will be provided with shares in an auction,
with underwriters having no choice as to who gets the shares

It is the complexity of engaging in auctions that discourage investors from choosing an auction
as their stock distribution option, thus leading to investor conduct that is unfavorable for the
issuer. In other words, auctions offer greater certainty of fair prices, but the difficulty of
conducting an auction turns investors away from them, which in turn pushes the issuing firms
towards roadshows.
When they take a business public, investment banks charge a fee for performing underwriting.
The highest single direct expense associated with an IPO is the underwriting fee. Costs for
corporations range from an average of 3.5 percent to 7.0 percent of gross IPO revenues, based
on public filings by 705 organizations. The following is a table that illustrates this.

Deal Value Ranges Average UV Fee% Average Investment Banks
on a Deal*
$25m to $99m 7.0% 4
$100m to $249m 6.8% 6
$250m to $499m 6.1% 9
$500 to $1bn 5.4% 12
Greater than $1bn 3.5% 16

Legal

The fees needed for the outside counsel of your organization and the counsel of the underwriter
are usually influenced by the same factors mentioned above in the cost section related to
underwriters, but you can expect to pay anywhere between $0.7 and $1.5 million. The creation
of the offering documentation as well as the evaluation of and guidance on contracts relevant
to the offering are part of these legal fees.

Auditor

You would need to employ an auditor, in addition to the year-end audit needed by the SEC, to
deliver a comfort letter to the underwriters, to evaluate the statement of registration, to audit
the financial reports contained in the offering documentation, and to evaluate all documentation
relevant to the offering, such as the SEC’s letters of comment.

14 https://www.forbes.com/sites/jayritter/2014/06/19/why-is-going-public-so-costly/

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