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the time limits of adding monetary assets or securities to a client's account a brokerage company takes the situation at the market, forecasts of the future market environment and degree of professionalism of a client into consideration. In other words, all criteria employed by brokerage companies for making decisions on the time limit when the client's account should be added are unclear and very subjective. This problem can cause prepossession for a client or a situation when one of the numerous risks of margin transactions becomes an actual risk in case the risk manager of a brokerage company has made the wrong decision. In summary, it is our understanding that this gap
in legislation should be eliminated, clear time limits should be set, and methods of depositing funds to trading accounts should be defined in case margin level becomes critically low.
1. Vain S. Liquidity // Securities Market. 2002. № 18.
2. Evstigneev V.R. Financial Market in Transition Economy. M.: Publishing House "Editorial URSS", 2004.
3. Kiselev M.V. Aspects of Regulation of Derivatives Market // Bulletin of Saratov State Socio-Economic University. 2009. № 1 (25).
4. Kiselev M.V. Systemic Approach to Regulation of Derivatives Market in Russia // Business, Management and Law. 2009. № 2
удк 338.24 A.N. Chimarov
EXIT FROM THE BUSINESS THROUGH THE PUBLIC MARKET
A strategy of exiting from the business through the public market is touched upon. Interrelation of IPO market and M&A transactions market is studied. Objective and subjective reasons which have an impact on the efficiency of exit from the business though an IPO are revealed. Positive and negative aspects of IPO are determined. The main risks of exit from the business through an IPO are analyzed. Methodic approaches to risk management are suggested.
Key words: initial public offering, mergers and acquisitions, risk factors, risk management.
A.H. Чимаров
ВЫХОД ИЗ БИЗНЕСА ЧЕРЕЗ ПУБЛИЧНЫЙ РЫНОК
В статье рассмотрен вариант стратегии выхода из бизнеса через публичный рынок, показана взаимосвязь рынка IPO и рынка слияний и поглощений. Выделены объективные и субъективные причины, влияющие на эффективность выхода компании на публичный рынок, определены положительные и отрицательные стороны использования инструмента IPO. Проанализированы основные риски при выходе посредством IPO и предложены методические подходы по управлению рисками.
Ключевые слова: публичное размещение акций, слияния и поглощения, факторы риска, управление риском.
Transactions in the market for corporate control involve not only integration processes (mergers and acquisitions) but purchase and sale of the business which manifest themselves in strategies of exit from the business. Merger and acquisition transactions are mostly considered from the viewpoint of the purchaser because the purchaser is an active player in the market for corporate control. Many publications and analytical reviews have already been devoted to integration transactions. They describe the main methodological approaches to strategy development, criteria for selecting enterprises as objects for these transactions, estimation methods related to working out projects of purchase-sale of assets, etc. At this the information material informs the purchaser to a large extent and does not provide information to the seller or the owners of the enterprise which is the object of this kind of transactions [3]. In this regard a question arises as to what the owner of a company should do within the framework of total consolidation of assets and capital investment and what the owner should do to get the maximum benefit, what factors influence the efficiency of exit of the owner from the business, what a seller should do to achieve profit maximization through purchase and sale transaction. There are many options for exit from the business. Only one of them - an IPO strategy is discussed.
Studying the IPO market in Russia it is worth mentioning that the results of the IPO market of Russian compa-
nies in 2010 are optimistic. Quantitative volume (13 public offerings) reached close to its maximum for the whole period of Russian market of IPO/SPO in its existence (in 2007). Its value ($ 3.9 billion) is less than the value of the peak in 2007 (which was due to offerings of VTB, Sber-bank, PIK, "Uralkali", etc.) [5]. Table 1 presents statistical data on the development of the IPO market for the seven-year period (2004 - 2010).
T a b l e 1
Statistics of IPO Market (2004 - 2010)
Period 2004 2005 2006 2 007 2008 2009 2010
Volu me of offerings, $ mln. 1 7S,S 2707,4 3211,7 1 SS4 7,S 17S3,6 134,5 393 S,9
Numbe r of offerings, $ mln. 2 7 10 14 12 3 13
It should be pointed out that 57% of value falls on one offering "Rusal" (IPO, $ 2.2 bln.). It was the first Russian company which placed its shares at the Hong Kong Stock Exchange. There are still debates among analysts on this ambivalent IPO. Demand for the shares of "Rusal" was really high among Asian, European and North American investors. But almost immediately after offering the shares of the company receded considerably and receded by 30% during the next month. In May their price sunk below offer price. Experts still worry this can scare foreign investors away from the Russian market [1].
T a b l e 3
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Speaking about industry-specific features apart from metallurgy industry, fuel industry should be emphasized as offering volume in this industry is 31% (4 out of 13 offerings) and market value is 12% ($ 468 mil.). Ranking of issuing companies (2010) is presented in Table 2.
T a b l e 2
Ranking of IPO Issuing Companies (total volume of offerings) *
Issuing Company IPO Volume; $ mln. Share Fraction, % Excha nge Trading Marketplace
"Ru sa r 2 2 36.5 11 HKEx, NYSE Euronext
"Protek" 399.9 22 RTS and MICEX
LSR Group 398.1 9 LSE, PTC. MICEX
'Mlechel" 228.8 3 NYSE
"Eurasia Drilling" 22.5 8 LSE
"Kuzbass Fuel Company" 163.3 25 RTS and MICEX
"Ru sskoe More" 90.0 19 RTS and MICEX
'Cherkizovo" 62.8 5 LSE
"Exillon Energy" 56.8 16 LSE
"Rosinter" 27.5 18 RTS and MICEX
"Victoria Oil & Gas" 20.9 30 AM (LSE)
Pha rmacy Cha in "36.6' 17.2 5 RTS and MICEX
"Diod" 96 9 IIM (MICEX)
*The source: URL: http://www.offerings.ru.
There have been changes in positions of exchange trading marketplaces. In 2010 the leaders in offerings were MICEX (7 transactions) and RTS (6 transactions). From the point of view of the value the leader was HKEx, a new exchange trading marketplace for Russia. It became the leader due to a single offering. Its share was 53%. In 2009 the London Stock Exchange (LSE) was the leader (6 out of 12 offerings and with 64% of market value) [4].
Considerable offering increase can be due to the following reasons:
- liberalization of the national stock market;
- approved procedure of entry of Russian companies into foreign exchange trading marketplaces;
- availability of investment capital which is necessary to be invested into prospective economy sectors.
It is worth mentioning that markets of IPO and M&A transactions are interrelated. The majority of issuing companies consider the public market to be a source of generating cheap and considerable capital for implementation of big investment projects, purchase and sale transactions as well as purchase and sale transactions of other market players. At the same time it is necessary to have a considerable complex of attractive assets to enter the stock exchange market. These assets are for obtaining the needed amount of finance. For this many issuing companies settle M&A transactions before an IPO to become a large cap.
Besides, results obtained from the analysis show that capitalization of a company increases by10 - 15% before and after entry into the public market. This gives its owner an opportunity to get extra value on sale. Coming back to the issue of using the public market as an instrument to exit from the business, it should be said that the majority of Russian companies are not ready for this kind of exit. There are several objective and subjective reasons for this. In the first instance, it is the impact of external and internal factors on efficiency of a company exit to the public market (Table 3).
Impact of External and Internal Factors on Efficiency of a Company Exit to the Public Market
External factor Internal factor
Unfavorable environment of the stock market and exposure of the equity to risks Lack of financial, administrative resources or tim ing bu dgets to prepare for an exit to the stock exchange
Present trend in preferences of investors Thin market capitalization of an issuing company
Uncertainty of the results of offering wh ich almost always exists till the last moment before the t ra nsaction is settled Consideration the opinion of minority shareholde rs (a private co mpa ny considers the decisio ns of the owner)
The condition of the industry where the company operates Transparency of a public company (it is committed to providing fair and equal access to information on itself while a private company is not committed to do it. It especially concerns financial plans of the company and the ir implementstio n)
At this it should be kept in mind that external factor is less influenced by the activities of a company but is specified by macroeconomic processes in the whole world and in Russia while internal factor is directly dependent on the processes initiated by a company which prepares for its exit to the public market.
The fact that companies do not have demandable financial, administrative or timing budget resources for preparing their exit to the stock exchange limits the number of companies for an IPO settlement as it is necessary to
- create and enable the work of a team of advisors: an underwriter, managers, a financial consultant and legal consultants, a publishing company, etc.;
- demonstrate high profitability of the business;
- create and enable the work of an internal team on preparation (it does not necessarily mean top-managers - CEO and Financial Director are on the team);
- finance direct expenses on the transaction: to make payments to the underwriter and the transaction advisors, to incur transaction cost. In spite of the fact that a considerable part of the expenses is fixed and paid after the company exits to the stock exchange, the sum of 6 - 10% of the amount of the outside funds (as the data available on the companies which have already exited to the stock exchange show) is rather high;
- meet the timing budget. The process of exiting to the IPO market (e.g., NYSE or LSE) takes around 150 - 200 days. But as the process of preparation can be much longer there is a necessity to additionally restructure the business so that it complies with the requirements of the corresponding market.
Low market capitalization of the company can impose obstacles for efficient company placement. In this regard it is necessary to work out measures aimed at cost increase of the business. M&A market is the most attractive means to achieve the goal set.
Another important issue of expediency of M&A transactions in the process of exit to the public market is the opportunity to offer a smaller batch of shares to achieve the goals. This enables to retain control over the company to a large extent. Increase in the company capitalization by several times (even by 30 - 40%) allows saving on the offered batch of shares from 5% to 10%. It is due to syner-getic effect which occurs in asset consolidation. The re-
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suit of it is the increased valuation of the batch by the investment banking professionals.
One more positive aspect of M&A transactions settled before exit to the public market is the possibility to improve several financial indicators (return on assets, profit return, etc.) reported in consolidated financial statement of the issuing body. Later these indicators are found in such multipliers as P/E (price/earnings multiple) which in its turn is perceived favorably by investors because it enables them to assess the company from the point of view of its attractiveness for investment and excess return of their investments. This parameter is attained by increase in mean return. It is achieved by including the more profitable asset into the head company. One of the advantages of this technique is the ability of the company to integrate the obtained asset into the indivisible manufacturing cycle which proves the company management to be effective and to be able to influence such indicators as company value and earning power.
Thus, before a company exits to the IPO market the following positive and negative factors in M&A transactions can be distinguished.
Advantages:
1) opportunity to attract more investments by means of increasing market value of the company;
2) maintaining more control due to smaller batch offer;
3) reduction of time on the process of the issuing body exit to the public market;
4) intense interest of the investment banking professionals;
5) improvement of several financial indicators;
6) widening of the pool of potential investors.
Disadvantages:
1) time-consuming process required for the integration of the acquired property into the indivisible manufacturing complex;
2) delayed settlement of a M&A transaction delays the moment of offering;
3) deterioration of financial indicators of the issuing body in case a debt-laden company is acquired.
Thus, the number of offerings at the stock exchange grows on a constant basis. This makes it possible to say that the public market serves as a means for exit from business. It is worth mentioning that this approach has its own positive and negative aspects. We consider that positive aspects are the following:
- getting hold of long-term capital;
- obtaining valid business valuation;
- appearance of "currency" for M&A transaction settlement;
- opportunity for withdrawal from business for key owners of the company;
- decrease in the value of credit resources;
- increase in transparency;
- improvement of corporate control;
- perfecting image.
We believe negative aspects are
- considerable time and cash expenditures on an IPO transaction settlement;
- stricter requirements for data reporting and information delivery;
- disadvantages of publicity (information on the business activities of the company is available to everybody competitors including);
- possibility for "unfriendly" shareholders appearance;
- necessity for existence of investment history.
Therefore, there are more advantages than disadvantages in IPO transaction settlement for Russian companies.
Considering the IPO market as an opportunity for parting with the assets, it can be stated that the main risk associated with this process is the risk of receiving a lesser part of the business worth by the owner. This is due to the fact that this approach largely depends on the external environment, market assumptions and preferences. Thus, it is less predictable. That is the reason the owner can face the problem the company will be highly undervalued by investment banking professionals. And this undervaluation will not be attributable to the owner's action or inactions. At the same time the owner should be able to smartly manage the risks characteristic to this process.
From our point of view, management of risks during the process of exit to the public market should include several stages.
1st stage. Identification of risks.
At this stage it is important to reveal dangers which may be a threat to effective offering of a company shares at the stock exchange. For this it is necessary to distinguish between exogenous (external) risks which are beyond the scope of the business entity decisions and endogenous (internal) risks which are in the scope of the business entity decisions. Exogenous risks are related to the market environment while endogenous risks enhance the issuing body readiness for public offering.
Exogenous risks:
- risk of abolition of IPO;
- price risk;
- speculative games of potential investors (liquidity risk);
- risk of market capitalization mitigation;
- inflation peril.
Endogenous risks:
- operational risk;
- financial risk;
- business risk;
- corporate management risk.
Risk of abolition of IPO directly during the process of book-building occurs in 20% of cases at western exchange trading marketplaces. In Russia it occurs in 5% of cases. Price risk, or risk of the change in price, is manifested in the fact that an investor while buying securities cannot be totally sure that after some time (e.g., while selling the securities) their market value will be the same and not reduce, or the shares will be undervalued by the market. That is the reason for offering at the lower limits of price range. Liquidity risk is due to unfavorable stock market environment as well as due to speculative games when investors sell-off shares of the issuing body. Risk of market capitalization mitigation occurs in 5% of cases. Inflation peril, or purchasing power risk, means that real return, i.e. yield adjusted for inflation, can be negative.
Operational risk means the risk of underruning the indicators conforming to requirements of wide pool of investors who are regulators in case weak pockets and mistakes in management of business processes are revealed. Financial risk is in noncompulsory conformity to time limits of earnings flows and monetary obligations of the issuing body. Business risk includes the risk of activities of shareholders, the managerial team as well as the risk of the company image and strategy. Corporate management risk
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includes financial and information transparency, equity capital structure, and management quality.
Each of the risks described influences the efficiency of IPO settlement in varying degrees.
2nd stage. Measuring potential impact of the identified risks.
Some risks are so small that are practically insignificant while others have a disastrous effect on the company. It is evident an emphasis should be made on more serious risks. After the risks have been identified it is necessary to measure the impact of each risk. This process involves evaluation of 1) loss event frequency (possibility) and 2) weight of loss (money value of each loss). As a rule, the impact of each risk depends on the weight of loss more than on loss event frequency. In general, it should be noted that evaluation of the impact of risk on IPO transactions is revealed in reaching maximum debt ceiling by the issuing body. Thus, the impact of risk factors on IPO process can be expressed in the following way:
Qmax = Qmin + IQ x Ir
In this formula Qmax - maximum debt ceiling; Qmin -minimum debt ceiling; IQ - difference between maximum and minimum debt ceilings; Ir - index of risk.
Incidence of risk can be presented in the following formula:
Ir = P x L
In this formula Ir - index of risk; P - possibility of risk; L -risk cost.
Possibility of risk is determined in accordance with qualification of risks (in percentage or score terms depending on the level of preparedness of the company to IPO transaction). Value of losses which the issuing body can sustain due to exit to the IPO market is determined in per cent rate from underrunning the targeted debt ceiling [2].
In general, the impact of the revealed risks on the debt ceiling in the IPO process can be presented in the form of a table with assignment of values to every indicator, e.g., using a 10-score scale. Assessing the impact of this or that risk on the process of exit to the public market it can be mentioned that this impact can differ depending on the stage of IPO process. Internal factor (operational, information and business risks) is the most important from the point of view of offering of shares at the stock exchange. The given group correlates internally as it reveals the opportunities of the company and preferences of the investors. As the process of offering consists of three stages, the consensus representative Ir can be applied to analyze the risk impact. Ir is calculated as follows:
ir = ^Irn /3
In this formula Ir- mean value of index of risk.
Thus, it can be assumed that measures aimed at management of all groups of risks will provide the opportunity for reaching maximum debt ceiling and value creation. On the contrary, several risk groups will cause reaching minimum debt ceiling and reduce market value of the company.
3rd stage. Choice of techniques for minimizing each of the relevant risks.
Considering the aspects of IPO risk management it is an important point to remember that a company should develop measures aimed at managing all the aforementioned risks which can arise during the process of an IPO settlement. The most efficient methods of management of
each group of risks should be revealed. The example of risk management methods is presented in Table 4.
T a b l e 4
The most efficient methods of management of risk groups
Type of risk Techniques for evening-out
Corporate management risk 1. Creation of departments for public and investors relatio ns. 2. Preparation of the necessary information for the investor community in accordance with the approved regulation and standard. 3. Publishing analytical materials and comments assessing the company activities. 4. Supplying information on the owners of the company. 5. Cooperation with specialized publishing houses with a view to presentation of perspectives and profitability of the sphere of industry and market segment where the company operates. 6. Meeting the representatives of investment funds, professional participants of the securities market to make presentations on the com pany a nd to promote it
Ope ratio nal risk 1. Improvement of financial and economic indicators of the company by means of optimization of expenses, elimination of duplicate functions, rise in profitability, improvement in logistics. 2. Implementatio n of active g rowth strategy. 3. Divestment of assets that do not belong to th e main business and of assets that are non-performing as well as divestment of business lines of the same kind.
Financial risk 1. Improvement of credit rating. 2. Utiliza ton of bond and bill market to fina nce programs and projects of the company which allow dive rsifying the capital assets or enlarging the market share. 3. Revaluaton of the company value in case it is undervalued.
Business risk 1. Preparing reports in accordance with FRS 2. Introduction of an independent representative into the Board of Directors. 3. Adoption of corporate management code. 4. Implementation of large investment projects. 5. Dividend payment.
Assessment of economic efficiency of the measures developed can be presented in the following way:
CE = IQ x Ir1 - (IQ x Ir2 + C)
In this formula CE - economic efficiency of risk management; Ir1 - index of risk adjusted to measures; Ii2 -index of risk unadjusted to measures; C - expenses on measures.
In general, considering the impact of risks on efficiency of IPO transaction settlement, it should be noted that price discovery of placement has its own laws and it is influenced by the market environment. At the same time net income which is obtained from the IPO transaction is directly dependent on qualitative transformations of the company and the ability of the company to manage risks. In this regard the owners of the company should work out a clear-cut scenario, algorithm for exit from business taking all the available assumptions into consideration to efficiently perform this operation.
1. Alexandrov A. Russian IPO Market // Publishing House "Vanderbuild". 2010. № 6.
2. Gvardin S.V. Exit from the Business with Maximum Benefit. M.: Publishing House "Eksmo", 2008.
3. Romanenko O.A. Development of the Theory of Integration and Its Significance for Financial Management of Business Entities // Finance and Credit. 2010. № 46 (430).
4. Semernina Yu.V. The Main Indicators of the Russian Securities Market // Bulletin of Saratov State Socio-Economic University. 2010. № 2 (31).
