Question

1.Canaccord Genuity has agreed to underwrite Firm A’s initial public offering and will do so with regular type of underwriting. If some very bad news is released about Firm A on the day before the issue date, what is likely to happen?
Select one:
a. The underwriter is obligated to buy the securities from Firm A and will have to sell them for a price lower than planned. The underwriter will incur a loss.
b. The underwriter is obligated to buy the securities from Firm A and will sell them for the offer price as planned.
c. The underwriter is obligated to buy the securities from Firm A but will buy them for a lower price so that a loss is not incurred.
d. The underwriter will exercise its market out clause and will not buy the securities from Firm A. The issue will likely be withdrawn.

5.Why do academics believe that IPOs are consistently underpriced?
Select one:
a. Because the market cannot be efficient for firms that do not yet trade publicly since there is no information.
b. Because the only way that underwriters make money is by buying the securities for less than they are worth and earning a spread when they resell them.
c. Because investment underwriters are afraid of what will happen if their clients lose money buying new securities and want to keep them happy.
d. Underpricing only happens when there is a bubble such as the dot-com bubble or the Canadian marijuana bubble.

Answer 1

Answer I1

Option ID- IThe Iunderwriter Iwill Iexercise Iits Imarket Iout Iclause Iand Iwill Inot Ibuy Ithe Isecurities Ifrom IFirm IA. IThe Iissue Iwill Ilikely Ibe Iwithdrawn.

A Imarket Iout Iclause Iis Ia Istipulation Iin Ian Iunderwriting Iagreement Ithat Iallows Ithe Iunderwriter Ito Icancel Ithe Iagreement Iwithout Ipenalty. IA Imarket Iout Iclause Ican Ibe Iactivated Ifor Ispecific Ireasons Isuch Ias Isouring Imarket Iconditions Ior Isimply Ibecause Ithe Iunderwriter Iis Ihaving Idifficulty Iin Iselling Ithe Icompany's Istock.

A Imarket Iout Iclause Iis Iall Iabout Ireducing Ian Iunderwriter's Irisks Iin Ia Ifirm Icommitment Iunderwriting. IThe Iunderwriter Ifor Ian IIPO Icontracts Iwith Ithe Iissuing Icompany Ito Imarket Iand Isell Ithe Icompany's Istock Ito Iinvestors Iin Ithe Iprimary Imarket. IOf Icourse, Ithis Ientails Ia Ifair Iamount Iof Irisk Iresulting Ifrom Ioverhype Iand Iother Ifactors. IUnderwriters Ican Isuffer Ia Imajor Ifinancial Iloss Iby Ibeing Iforced Ito Iunderwrite Ian Ioffering Ithat Iit Ilater Idiscovers Imay Ihave Ilittle Iinterest Ito Iinvestors I– Ieither Ibecause Iof Icircumstances Iwithin Ithe Iissuing Icompany Ior Ibecause Iof Ideclining Imarket Iconditions. IHence, Ia Imarket Iout Iclause Iis Igenerally Iinvoked Iwhen Ithe Imarket Ihas Ihit Ia Irough Ipatch Ior Iother IIPOs Ihave Iunderperformed.

Similarly, Iin Ithis Icase, Isince Ia Ivery Ibad Inews Ihas Icome Iout Ijust Ibefore Ithe Idate Iof IIPO, Ithis Ican Iadversely Iaffect Ithe IIPO Iand Ito Isafeguard Iitself, Iunderwriter Iis Imost Ilikely Ito Ichoose Imarket Iout Iclause. IHowever, Iits Inot Iguaranteed Iand IFirm IA Imay Istill Ibe Iable Ito Iconvince Ithe Iunderwriter Ito Ichoose Iotherwise.

Answer I2

Option IA- IBecause Ithe Imarket Icannot Ibe Iefficient Ifor Ifirms Ithat Ido Inot Iyet Itrade Ipublicly Isince Ithere Iis Ino Iinformation.

IPO Ipricing Iis Ifar Ifrom Ian Iexact Iscience, Iso Iunderpricing Ian IIPO Iis Iequally Iinexact. IThe Iprocess Imixes Ifacts, Iprojections, Iand Icomparables:

• Quantitative Ifactors Iconsidered Iinclude Ithe Icompany's Ifinancials Iincluding Iits Icurrent Isales, Iexpenses, Iearnings, Iand Icash Iflow. IProjected Iearnings Ialso Iare Ifactored Iin.
• An IIPO Iprice Ithat Ireflects Ia Iprice-to-earnings I(P/E) Imultiple Icomparable Ito Ithe Icompany's Iindustry Ipeers Iis Isought.
• The Isize Iof Ithe Icurrent Iand Inear-future Imarket Ifor Ithe Iproduct Ior Iservice Ithat Ithe Icompany Iproduces Iis Iconsidered.
• The Imarketability Iof Ithe Icompany's Istock Iin Ithe Icurrent Ieconomic Ienvironment Ialso Iis Icrucial.