Question

S&S Air Goes Public

Mark Sexton and Todd Story have been discussing the future of S&S Air. The company has been experiencing fast growth, and the two see only clear skies in the company's
future. However, the fast growth can no longer be funded by internal sources, so Mark and Todd have decided the time is right to take the company public. To this end, they
have entered into discussions with the investment bank of Crowe & Mallard. The company has a working relationship with Renata Harper, the underwriter who assisted with
the company's previous bond offering Crowe & Mallard have assisted numerous small companies in the IPO process, so Mark and Todd feel confident with this choice
Renata begins by telling Mark and Todd about the process. Although Crowe & Mallard charged an underwriter fee of 4 percent on the bond offering, the underwriter fee is 7
percent on all initial stock offerings of the size of S&S Air's offering. Renata tells Mark and Todd that the company can expect to pay about $2.3 million in legal fees and
expenses, $16,000 in SEC registration fees, and $20,000 in other filing fees. Additionally, to be listed on the Nasdaq, the company must pay $100,000. There are also transfer
agent fees of $8,500 and engraving expenses of $480,000. The company should also expect to pay $125,000 for other expenses associated with the IPO.
Finally, Renata tells Mark and Todd that to file with the SEC, the company must provide three years' audited financial statements. She is unsure about the costs of the audit
Mark tells Renata that the company provides audited financial statements as part of the bond covenant, and the company pays $275,000 per year for the outside auditor
QUESTIONS
1. At the end of the discussion, Mark asks Renata about the Dutch auction IPO process. What are the differences in the expenses to S&S Air if it uses a Dutch auction IPO
versus a traditional IPO? Should the company go public through a Dutch auction or use a traditional underwritten offering?
2. During the discussion of the potential IPO and S&S Air's future, Mark states that he feels the company should raise $75 million. However, Renata points out that if the
company needs more cash in the near future, a secondary offering close to the IPO would be problematic. Instead she suggests that the company should raise $90 million
in the IPO. How can we calculate the optimal size of the IPO? What are the advantages and disadvantages of increasing the size of the IPO to 590 million?
3.
After deliberation, Mark and Todd have decided that the company should use a firm commitment offering with Crowe & Mallard as the lead underwater. The IPO will be
for $75 million. Ignoring underpricing, how much will the IPO cost the company as a percentage of the funds received?
4. Many employees of S&S Air have shares of stock in the company because of an existing employee stock purchase plan. To sell the stock, the employees can tender their
shares to be sold in the IPO at the offering price, or the employees can retain their stock and sell it in the secondary market after S&S Air goes public. Todd asks you to
advise the employees about which option is best. What would you suggest to the employees?

Answer 1

The choice between Dutch auction and traditional IPOs, determining the optimal size, assessing IPO costs, and advising employees on stock options require careful consideration of S&S Air's unique circumstances and consultation with financial and legal experts.

Dutch Auction IPO vs. Traditional IPO:

Expenses in Dutch Auction IPO: The expenses in a Dutch auction IPO may be lower than in a traditional IPO. In a Dutch auction, the company lets investors bid on the price and the quantity of shares they want to purchase. This process may result in lower underwriting fees and potentially lower legal and filing fees.

Expenses in Traditional IPO: In a traditional IPO, the underwriter fee is higher (7%), and there may be more control over the pricing of shares. However, the process is generally more expensive due to higher underwriting fees.

Recommendation: The choice between a Dutch auction and a traditional IPO depends on various factors, including the company's valuation, investor demand, and management's preferences. If S&S Air prioritizes cost efficiency and a potentially lower underwriting fee, a Dutch auction may be favorable. However, the company should carefully evaluate the implications of each option.

Optimal Size of the IPO:

Calculation: The optimal size of the IPO can be determined by assessing the company's funding needs and potential future cash requirements. Renata suggests raising $90 million to accommodate possible future needs.

Advantages of Increasing Size to $90 Million:

Provides a larger cash cushion for unexpected expenses or future growth opportunities.

Reduces the need for a secondary offering in the near future, avoiding potential complications and costs associated with a second offering.

Disadvantages:

Higher upfront costs associated with the larger IPO.

Dilution of existing shareholders' ownership may be greater with a larger offering.

Recommendation: Evaluate the company's financial projections, growth plans, and potential future capital requirements to determine the appropriate size. If there is a reasonable expectation of future cash needs, opting for the $90 million IPO may be prudent.

Cost of the IPO:

Calculation: The cost of the IPO, ignoring underpricing, is the sum of various expenses, including underwriter fees, legal fees, SEC registration fees, filing fees, Nasdaq listing fees, transfer agent fees, engraving expenses, and other expenses associated with the IPO.

Formula: Cost of IPO = Underwriter Fee + Legal Fees + SEC Registration Fees + Filing Fees + Nasdaq Listing Fees + Transfer Agent Fees + Engraving Expenses + Other Expenses

Percentage of Funds Received: Divide the total cost of the IPO by the funds received from the IPO and multiply by 100 to get the percentage.

Recommendation: Calculate the cost and percentage to assess the impact on the funds received.

Employee Stock Options:

Tendering vs. Retaining:

Tendering Shares:

Employees can sell their shares at the offering price during the IPO.

Provides immediate liquidity.

Retaining Shares:

Employees retain ownership and can sell in the secondary market later.

Potential for higher returns if the stock price increases post-IPO.

Considerations:

Employees should evaluate their financial needs, risk tolerance, and confidence in the company's future performance.

If liquidity is a priority or if employees are uncertain about the stock's future, tendering shares may be a safer option.

Retaining shares may be more beneficial if employees believe in the company's long-term growth potential.

Recommendation: Provide employees with information about the pros and cons of each option, and encourage them to consider their individual financial goals and confidence in the company's future.

It's important to note that these recommendations are general guidelines, and the specific circumstances of S&S Air should be thoroughly analyzed with the help of financial experts and legal advisors.