Difference between IPO and Seasoned Offering An initial public offering (IPO) is the public sale of stock by a private

company for the first time. Prior to the sale, the company is closely held; and it undertakes the public offering to raise capital for further expansion of its enterprise. On the other hand, a seasoned offering is an issue of securities from an already public company. The company already has existing shares that are publicly trading. A company involved in a seasoned offering is usually a large company that has exhibited stable price movements and substantial trading volume of its share, thereby earning a good reputation. Most importantly, the shares price of the company is already known to potential investors, which reduces a lot of uncertainty in a seasoned offering. On the contrary, IPO attracts a lot of uncertainty since the true value of the company is not publically known. Both IPOs and seasoned offerings are normally made through an underwriter. But the roles of the underwriters vastly differ. In an IPO, the underwriter bears much more risk and has the responsibility to obtain value for shares being sold, provide advice and sell the shares (Michaely, Ellis & O'hara, 2000 pp. 1039-1074). The process of selling the shares can be different too. The most assured way of selling is through a firm commitment where the underwriters buy the shares, and then sell them to the public. In this case, the loss from any unsold shares is borne by the underwriters. In more risky situations, the underwriters may only be willing to sell the shares on a best-efforts basis. In this case, the underwriters do not provide any guarantees, but make their best effort to sell the maximum possible shares. The company bears the loss from any unsold shares. In a seasoned offering, the role of underwriters is limited since the value and performance of the company is already known (Welch, 1989 pp. 421-449). Difference in Costs of Issuing Shares: The underwriters play a major role in an IPO. They provide advice, value shares, and guarantee the sale of shares. In return, they receive payment in the form of a commission or spread on the amount raised from an IPO. Chen & Ritter (2000 pp. 1105-1132) for most IPO1, this commission is 7% of the total amount raised from the sale. This is a huge expense that is associated with an IPO. In addition to this underwriting fee, an IPO entails substantial administrative costs. A firm going public has to file certain documents with the Securities and Exchange Commission in United States (and other regulatory bodies elsewhere). There are considerable costs involved with preparation of registration statements and prospectus. The firm also has to prepare financial statements and audit them. There are considerable
1

Chen and Ritters results were based on IPO between the amounts of $20million and 80million. The percentage costs may get higher for IPOs that are less than $20 million, and lower for IPOs than are more than $80million.

legal fees, printing and mailing costs. Some of these administrative costs are also present during a seasoned offering; but the magnitude is much lower. This is because many of these activities such as SEC filings and audited statements are a regular part of an already public companys activities. Some of the costs associated with an IPO are not immediately apparent. Many researchers have shown that the IPOs are usually underpriced. Ibbotson, Ritter & Sindelar (1994 pp. 66-74) studied 15,000 IPOs over a period of more than 40 years, and found an average underperformance of 19.1%. In aacordance with this finding, the costs of IPOs from underperformance are the most dominant costs. Underwriters usually place conservative estimates on the price an IPO share because it is difficult to judge how much an investor would be willing to pay for it. This is not the case in a seasoned offering because the value of shares before a seasoned offering is already known. The relationship, however, is more complicated. Researchers have argued that companied often intentionally underprice an IPO so that they can later issue securities at a higher price - enhancing their ability to raise additional capital (Welch, 1989 pp. 421449). It is also argued that a company, during an IPO, intentionally leaves money on the table in order to maintain the interest of uninformed investors who would not invest if the issue was not underpriced (Loughran & Ritter, 2002 pp. 413-443). Implications for Firm Managers: Going public is a stressful situation and is not always a successful undertaking. It involves a lot of costs and requires the complete attention of a companys management. The costs do not end after the company has gone public. Every year, the company has to pay for additional regulatory costs, preparation of financial statements, and legal costs. From ownership perspective, IPOs results in loss of control and bureaucracy, which might affect operations. Prior to undertaking an IPO, the company must consider other financing options and their possible benefits. IPO is certainly not recommended for small capital needs since the issuance costs are much higher in percentage terms. If the managers are issuing securities for company expansion or special projects, they must consider the costs of the issue when evaluating the benefit from the expansion.

References Chen, H & Ritter, J (2000) 'The Seven Percent Solution', Journal of Finance, 55, pp. 1105-1132.

Ibbotson, R, Ritter, J & Sindelar, j (1994) 'The Market's Problem with Pricing of Initial Public Offerings', Journal of Applied Corporate Finance, 7, pp. 66-74. Loughran, T & Ritter, J (2002) 'Why Don't Issuers Get Upset About Leaving Money on the Table in IPOs', Review of Financial Studies, 15, pp. 413-443. Michaely, R, Ellis, K & O'hara, M (2000) 'When Underwiter is the Market Maker: An Examination of Trading in IPO Aftermarket', Journal of Finance, 55, pp. 1039-1074. Welch, I (1989) 'Seasoned Offerings, Imitation Costs, and the Underpricing of Initial Public Offerings', Journal of Finance, 44, pp. 421-449.