Equity Public Offerings

Equity Public Offerings

A public offering is the regulatory and commercial machinery that brings new shares from a private company to the public markets. The Securities Act of 1933 frames the whole exercise: any sale of securities to the public must be either registered with the SEC or qualify for an exemption. Around that simple rule sits a web of process steps (S-1, cooling-off, red herring, road show, pricing, effective date), participant roles (issuer, underwriters, syndicate, selling group), and offering structures (firm commitment, best efforts, direct listing, private placement). Most of what the Series 66 tests here is recognition: who does what, when, and under what regulatory regime.

The major types of equity offerings

Public equity offerings come in several distinct forms based on whether the company is going public for the first time or returning to the market, and based on whose shares are being sold:

• Initial Public Offering (IPO). A company's first sale of stock to the public. IPOs are primary market transactions — proceeds go to the issuing company. Underwritten by investment banks that set the offering price and distribute shares to investors.
• Follow-on (or "seasoned") offering. Additional shares sold by an already-public company. Can be a primary offering (new shares issued, proceeds to the company, dilutive), a secondary offering (existing shareholders sell their shares, proceeds to the selling shareholders, non-dilutive), or a combination of both. The follow-on details are covered next.
• Direct listing. An alternative to the traditional IPO — existing private shares become publicly tradable without an underwritten offering. Spotify, Slack, and Coinbase used this approach. Covered later in this section.
• SPACs / blind pools / blank check companies. A SPAC raises capital through a traditional IPO but has no specific business operations at the time of the IPO — investors trust management to find a suitable acquisition target within 18-24 months.

SPACs — Special Purpose Acquisition Companies

SPACs (also called "blind pools" or "blank check companies") raise capital through a public offering with no specific business operations at the time of the IPO. Investors are buying into management's reputation and the promise that a suitable acquisition target will be identified.

• Structure. A SPAC raises capital through an IPO with the funds held in a trust account until a merger target is identified and approved.
• Timeline. Typically has 18-24 months to complete an acquisition (the "de-SPAC" transaction). If no target is found, the trust is returned to investors.
• Investor protections. Shareholders vote on the proposed merger. Those who disapprove can redeem their shares for the trust value (approximately the IPO price).
• Risks. Investors don't know what company they're investing in at IPO; management ("sponsors") may have incentives misaligned with public shareholders; valuations of the eventual acquired company can be opaque.

SPACs surged in 2020-2021 as an alternative IPO path; volume declined substantially in 2022-2023 as performance of de-SPAC companies underwhelmed. They remain a tested topic on the Series 66 because of their structural distinctness from traditional IPOs.

Follow-on offerings — primary, secondary, and combined

After a company has completed its IPO, it can return to the public markets for additional offerings. These "follow-on" or "seasoned" offerings come in three structural variants based on who is selling and where the proceeds go:

The Series 66 cares most about the "where does the money go" question. The exam will give a scenario describing the offering type and ask whether the issuer or the selling shareholders receive the proceeds. Primary → company. Secondary → selling holders. The distinction matters because it determines whether the offering dilutes existing shareholders.

Direct listings — the IPO alternative

A direct listing (also called a Direct Public Offering, DPO) lets an already-private company list its shares on a public exchange without issuing new shares and without engaging traditional IPO underwriters. Existing shareholders' previously-private shares simply become tradable on the exchange.

Key contrasts with a traditional IPO:

• No new capital raised in the original direct-listing model. The company doesn't sell new shares; it just enables liquidity for existing holders. (Recent rule changes permit capital-raising direct listings, but they remain less common.)
• No traditional underwriters. Investment banks may act as "financial advisers" but they don't buy and resell shares in a firm commitment. No underwriting spread to pay.
• No lockup period for existing shareholders. They can sell from day one. This is a major contrast with traditional IPOs, where 180-day lockups are standard.
• Reference price, not fixed offering price. The exchange sets a reference price the morning of listing, but the opening trade clears at whatever price supply and demand produce. Significant price discovery happens publicly on day one.

Notable direct listings: Spotify (2018), Slack (2019), Coinbase (2021). Direct listings appeal to companies with strong existing investor bases that don't need to raise capital but want liquidity for shareholders. They're rare relative to traditional IPOs and the Series 66 tests recognition more than mechanics.

The IPO process — high-level overview

At a high level, an IPO involves these steps. The next subsections develop each in detail:

• Select underwriter(s). The company hires an investment bank (typically several, forming a syndicate with a lead "book runner") to manage the offering.
• Due diligence and registration. The company files the registration statement (Form S-1) with the SEC. The S-1 includes the prospectus — financial statements, risk factors, use of proceeds, management background.
• Cooling-off period. The SEC reviews the filing, typically about 20 days. The preliminary prospectus ("red herring") can be distributed but no sales can yet be made.
• Road show. Management and underwriters present to institutional investors to gauge interest and build an order book of indications of interest.
• Pricing. Final offering price set based on demand from the order book, the night before trading begins.
• Effective date. SEC declares the registration effective. Sales can now occur. Final prospectus delivered with each sale.
• Aftermarket trading. Shares trade on the exchange. Underwriters may engage in stabilizing bids and exercise the green shoe over-allotment option.

The IPO process — phase by phase

An IPO unfolds over roughly 6-12 months from underwriter selection to first day of trading. Five phases, each with its own regulatory and commercial activity:

The red herring — what it is, what it's not

The preliminary prospectus — nicknamed the "red herring" for the red disclaimer printed on its cover — is the prospectus document used during the cooling-off period before the SEC declares the registration effective.

What the red herring contains:

• All material disclosures — business description, risk factors, financial statements, management background, planned use of proceeds.
• Most pricing details — the estimated price range, the number of shares to be offered. The final offering price is NOT yet set.
• A red disclaimer on the cover stating that the document is preliminary, subject to completion, and that no sales can be made until the registration is effective.

What underwriters may do with the red herring during cooling-off:

• Distribute it to prospective investors — especially institutional accounts on the road show.
• Collect indications of interest — non-binding statements that an investor would purchase shares at a certain price.
• Run tombstone advertisements — brief factual notices in the financial press announcing the offering. The tombstone is the only form of advertising permitted during cooling-off.

What underwriters CANNOT do during cooling-off:

• Accept binding orders or payment. Sales cannot occur until the registration is effective.
• Distribute the final prospectus — it doesn't exist yet because the offering price isn't set.
• Make oral or written claims about future performance. Statements must stay within the red herring's disclosed facts.

Road show, book building, and final pricing

During the cooling-off period, the issuer's management team travels with the lead underwriters to meet with institutional investors — mutual funds, pension funds, hedge funds, sovereign wealth funds. This is the road show. Its purpose is to build a list of investors who are interested in buying and at what price, called the order book.

Key features of the book-building process:

• Indications of interest only, not binding orders. Institutions tell underwriters how many shares they'd buy and at roughly what price. None of it commits either side until pricing is set.
• Price range published in the red herring. The preliminary prospectus shows an estimated range (e.g., "$18-$20 per share"). The road show may surface enough demand that the underwriters increase the range; weak demand may force a reduction.
• Final pricing happens the night before trading. The lead underwriter and issuer agree on the final price based on the order book. The final prospectus is printed overnight with that price stamped in.

The classic IPO outcome the Series 66 tests:

• Underwriters typically price below the "fair" market clearing price to ensure the offering is fully subscribed and to leave a "pop" on the first day. Average first-day pops have historically been 15-20% for U.S. IPOs — meaning the issuer is "leaving money on the table" in exchange for a successful launch.
• The issuer pays for that pricing decision — underwriters' incentives don't perfectly align with the company's incentive to maximize proceeds. Direct listings partly emerged as a response to this concern.

Firm commitment underwriting

In a firm commitment underwriting, the underwriters purchase the entire offering from the issuer at a stated price and then resell those shares to the public. The underwriters bear the risk of getting stuck with unsold shares.

Mechanics:

• Underwriters' purchase from issuer. At pricing, the underwriters commit to buying all the shares being offered at the offering price minus the underwriting spread (their fee). The issuer receives a known dollar amount with certainty.
• Underwriters' resale to the public. The underwriters then resell to public buyers at the full offering price. The spread (typically 5-7% for IPOs) is the underwriters' compensation.
• Risk allocation. If the offering is undersubscribed, the underwriters keep the unsold shares on their books. They've already paid the issuer; their loss if demand is weaker than expected.

Firm commitment is the dominant structure for IPOs of established or otherwise-attractive companies. The issuer prefers it because of pricing certainty; the underwriters prefer firm commitment for prestige and the larger spread, but only when they're confident demand will materialize. Most major IPOs use firm commitment.

Best efforts and its variants

In a best efforts underwriting, the underwriter acts as an agent rather than a principal. The underwriter agrees to use its best efforts to sell the shares but does not purchase them from the issuer in advance. If shares don't sell, they don't sell — the underwriter has no obligation to make up the shortfall.

Three variants extend the basic best efforts structure:

Investor protection under AON and mini-max: customer funds collected during the offering period must be held in an escrow account until the contingency is met. If the threshold isn't reached by the deadline, all customer money is returned in full and the offering is canceled. This escrow rule is specifically tested.

Underwriting syndicate and selling group

Large offerings rarely involve a single underwriter. Two layers of participants do the heavy lifting:

• Lead underwriter (book runner). The investment bank that runs the offering. Coordinates with the issuer, manages the SEC filing, runs the road show, sets pricing, allocates shares, and stabilizes the aftermarket if needed. Earns the largest portion of the spread.
• Co-managers and syndicate members. Additional investment banks that take a portion of the underwriting commitment. In a firm commitment, each syndicate member takes principal risk on its allocated share of the offering. They share in the spread proportionally to their commitment.
• Selling group. Broker-dealers that participate in distribution but bear NO underwriting risk. They sell shares to retail or institutional customers and earn the "selling concession" portion of the spread. They are sales agents, not underwriters.

The Series 66 expects you to distinguish syndicate members (principal risk, firm commitment portion) from selling group members (agency, no principal risk). The split matters for liability and compensation analysis: if the offering goes badly, syndicate members take the loss; selling-group members simply earn (or don't earn) their concession.

The green shoe (over-allotment option)

The green shoe option — technically the "over-allotment option," named after the Green Shoe Manufacturing Company that first used the structure — gives the underwriters the right to purchase up to an additional 15% of the offering size from the issuer at the offering price, within 30 days after the IPO.

Why it exists: the green shoe gives underwriters the tools to stabilize aftermarket price without taking unhedged short positions. The mechanic:

• Underwriters sell up to 115% of the official offering size to the public at the IPO. The extra 15% is sold "short" — the underwriters don't actually have those shares yet.
• If the stock trades up in aftermarket, the underwriters exercise the green shoe and buy those extra shares from the issuer at the IPO price — the issuer gets extra capital. The over-allotment is delivered to investors.
• If the stock trades down in aftermarket, the underwriters cover their short by buying back the shares in the open market at the lower price, NOT by exercising the green shoe. The buying activity supports the price. The issuer doesn't get the extra 15% but the price is stabilized.

For the Series 66, recognize: green shoe = 15% over-allotment, helps the underwriter stabilize the aftermarket, and either expands the offering by 15% (if upward stabilization isn't needed) or supports the price (if it is needed).

Regulation D — private placements

Regulation D is the dominant exemption from SEC registration for private offerings. Two rules within Reg D are widely used:

Accredited investor definition (most common categories): an individual with $1 million+ net worth (excluding primary residence) OR $200,000+ income ($300,000 if filing jointly) in each of the last 2 years with reasonable expectation of the same in current year. Entities also qualify based on asset thresholds. Recently expanded to include holders of certain financial certifications (Series 7, 65, 82).

The 506(b) vs 506(c) trade-off: 506(b) allows some non-accredited investors but prohibits advertising; 506(c) allows advertising but is accredited-only. The Series 66 tests both differences directly.

Regulation A — mini-IPOs (Tier I and Tier II)

Regulation A (or "Reg A+") is a lighter registration regime than a full S-1 IPO. It's sometimes called a "mini-IPO" because securities sold under Reg A become freely tradable (unlike Reg D restricted securities). Two tiers based on amount raised:

Reg A+ has been used most often by smaller issuers that want broader retail participation than Reg D allows (Reg A+ has no accredited-investor restriction and no general-solicitation prohibition) but don't want to bear the cost of a full IPO. The trade-off: securities are freely tradable, but the regulatory bar is meaningfully higher than Reg D, especially for Tier II.

Intrastate, Regulation S, and Rule 144A

Three additional exemptions that round out the Series 66 testable list:

FINRA Rule 5130 — restrictions on IPO allocations

FINRA Rule 5130 (formerly NASD Rule 2790) prohibits FINRA member firms from selling "new issues" (typically hot IPOs) to "restricted persons." The rule aims to prevent allocation of valuable IPO shares to industry insiders who don't need preferential treatment.

Categories of restricted persons:

• Broker-dealer firms and their employees — FINRA member firms, registered persons (anyone with a securities license), and their immediate family members.
• Finders and fiduciaries — attorneys, accountants, consultants who have a relationship with the issuer or underwriter.
• Portfolio managers at investment advisers, banks, insurance companies — specifically when they have any decision-making authority for purchasing securities for the firm.
• Immediate family members of the above (spouse, children, parents, siblings, in-laws — if living in the same household or financially supported).

The point of the rule: prevent broker-dealer employees and their families from getting allocations of hot IPOs that retail customers can't access. Exceptions exist for accounts that include both restricted and non-restricted persons (the "de minimis" exception applies if restricted-person interest is under 10%), but the broad principle is that industry insiders cannot receive preferential IPO allocations.