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Public Offering versus Private Placement

Most firms raise funds in the primary market by issuing securities through a public offering, which is the nonexclusive sale of securities to the general public. The IPO and the secondary offering by Kenson Co. in the previous example were

public offering

The nonexclusive sale of securities to the general public.

FIGURE 2

Comparison of Primary and Secondary Market

Transactions

underwrite

To guarantee the dollar amount to be received by the issuing firm from a public offering of securities.

private placement

The sale of new securities directly to investors, rather than to the general public.

public offerings. A public offering is normally conducted with the help of a securities firm that provides investment banking services. This firm may advise the issuing firm on the size of the offering and the price of the offering. It may also agree to place the offering with investors. It may even be willing to underwrite the offering, which means that it guarantees the dollar amount to be received by the issuing firm.

As an alternative to a public offering, firms may issue securities through a private placement, which is the sale of new securities directly to an investor or group of investors. Because a new offering of securities is often worth $40 to $100 million or more, only institutional investors (such as pension funds and insurance companies) can afford to invest in private placements. The advantage of a private placement is that it avoids fees charged by securities firms. However, some firms prefer to pay for the advising and underwriting services of a securities firm rather than conducting a private placement.

Money Markets versus Capital Markets

Financial markets that facilitate the flow of short-term funds (with maturities of 1 year or less) are referred to as money markets. The securities that are traded in money markets are called money market securities. Firms commonly issue money market securities for purchase by investors in order to obtain funds for a short period of time. Firms may also consider purchasing money market securities with cash that is available temporarily. Likewise, investors purchase money market securities with funds that they may soon need for other (more profitable) investments in the near future.

money markets

Financial markets that facilitate the flow of short-term funds (with maturities of 1 year or less).

money market securities

Securities traded in money markets.

capital markets

Financial markets that facilitate the flow of long-term funds (with maturities of more than 1 year).

securities

Financial instruments traded in capital markets; stock (equity securities) and bonds (debt securities).

foreign bond

A bond issued by a foreign corporation or government that is denominated in the investor's home currency and sold in the investor's home market.

In contrast, financial markets that facilitate the flow of long-term funds (funds with maturities of more than 1 year) are referred to as capital markets. The instruments that are traded in capital markets are called securities. Although stocks do not have maturities, they are classified as capital market securities because they provide long-term funding. Firms commonly issue stocks and bonds to finance their long-term investments in corporate operations. Institutional and individual investors purchase securities with funds that they wish to invest for a long time

 
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