Bonds vs. stocks

WEBVTT
Kind: captions
Language: en

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So we now know that there are
two ways that a company can

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raise capital.

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It can do it by borrowing
money, which is debt.

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Or by selling shares of
itself, or essentially

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allowing other people to become
partial owners of it,

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and that is equity.

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And these directly translate
into securities, that you're

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probably familiar with, but
maybe you didn't have a more

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exact idea of what they are.

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You know what equity securities
are, and just so

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you know, what is a security?

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A security is essentially
something that can be bought

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and sold that has some type of
claim on something, or some

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type of economic value.

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So a security in the equity
world is a stock.

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And a security in the debt
world is a bond.

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Let me explain it.

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So let me just draw the
balance sheet for the

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fictional company.

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It was pointed out to me that
socks.com actually is not a

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fictional company.

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That someone is indeed
selling socks online.

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Which, by the way, I think
is a great idea.

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So let's see, I have my
assets right here.

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These are the assets
of the company.

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But that's not what we're
worried about right now.

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And let me draw the equity
of the company.

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This is maybe shares
that they sold.

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So let's say that they
have-- that there

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are 10 million shares.

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And then we have the debt, the
debt of the company, or the

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liabilities.

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There are other liabilities
other than debt, per se, but

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that's all we'll worry
about right now.

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This is the debt.

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I'll do it in brown.

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We have the debt.

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And maybe the assets-- let me
just think of a good round

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number-- the assets are
$10 million in assets.

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And let's say our debt
is $6 million.

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And then what's left over for
the equity-- and the way you

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have to view it is OK, if I
have $10 million and I owe

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people $6 million, what's left
for the owners of the company?

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Well, the owners of
the company will

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have $4 million left.

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And it will be split amongst
the owners of the company.

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And there's 10 million
individual shares.

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So every person who has one of
those stock certificates will

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own one ten-millionth of this
$4 million, or essentially,

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$0.40 a share, or something.

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So anyway, this is-- and I think
you're familiar with

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this already-- this is
essentially stock.

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When we say 10 million
shares, that's 10

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million shares of stock.

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I could just draw 10 million
stock certificates.

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And, I guess, whatever
the ticker symbol is.

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And there could be 10
million of those.

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Now debt is interesting.

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There's a lot of ways you can
raise debt, and actually

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there's a lot of ways you
could raise equity, it

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actually doesn't have
to be with selling.

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Well, for the most part
you are selling stock.

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You could maybe think of some
other way, and we'll talk

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about other forms of
equity, preferred

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stock and all of that.

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But in the simplest level,
you're really

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always selling stock.

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Debt's a little different.

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Debt could be just in the
form of a bank loan.

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So this could be a bank loan,
where you literally go to the

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bank and say hey, I need $6
million, and they say OK, here

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you go, and we'll give it to you
for this interest. And you

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have to pay back the money,
above and beyond the interest,

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over this time schedule.

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So it's not too different
than maybe a mortgage.

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Or they might say OK, you pay
the interest for five years,

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and at the end of the five years
you also have to pay the

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principal amount.

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So you have to pay the
whole $6 million.

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Or you maybe have to come
up with a new loan or

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something like that.

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So that would just
be a bank loan.

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There's other things that are
revolving lines of credit,

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which is kind of like a
company's credit card to some

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degree, that it doesn't
have to use it.

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But if it does, that's kind of
debt the company takes on.

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But kind of the one that people
always talk about, I

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guess in the same phrase,
is bonds.

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So bonds are-- essentially you
are borrowing from the public

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markets again.

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You are borrowing from
a bunch of people.

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So what you do is you have,
let's say, the $6 million.

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And it could be divided into--
you could divide this into

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6,000 bond certificates.

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So this could be 6,000 bond
certificates-- let me see, and

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six million divided by 6,000,
that's a thousand, right?

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So it's going to be 6,000
times $1,000 bond

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certificates.

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And let's visualize what a bond

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certificate could look like.

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So that could be a
bond certificate.

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And its face value, and
sometimes they'll call it the

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par value, or the
stated value.

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It'll say-- let's call it
bond from Company XYZ.

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And it's face value is $1,000.

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So it's essentially-- this is
an IOU from Company XYZ.

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If I were to hold one of these,
if I had one of these

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sitting on my desk right now,
that tells me that Company XYZ

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is going to pay me $1,000
at some future date.

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And that future date
is at maturity.

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So it's going to pay
$1,000 at maturity.

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And you say oh, well, Sal,
that's all good, but what

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about the interest in between?

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And there's two ways to
think about this.

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Maybe they're going to pay me
$1000 in the future, but I

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only had to give them
$500, right?

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So, if you think about it,
there's automatically interest

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accruing in that.

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If I gave them $500 and then
five years later they pay me

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$1000, they are essentially
paying interest, right?

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They're paying me more back
than I gave to them.

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And in future videos we'll
actually do the math of how to

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figure out that type
of interest.

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In that situation, where they're
not kind of paying me

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interest as they go, this would
be viewed as a zero

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coupon bond.

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And I know I'm throwing out a
lot of terminology, but it'll

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all make sense to you
to in a second.

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So zero coupon essentially
means they're not paying

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interest until they pay
off the whole loan.

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And then they might kind of--
the interest will be implicit

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in the whole value amount.

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And I kind of jumped the
gun a little bit.

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But coupon is essentially a
regular payment on the bond

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that the company makes, in this
case XYZ will make, that

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is essentially-- you can almost
view it as a kind of

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interest.

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But if you really had to figure
out the interest that

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you're getting on the bond,
you'd actually have to

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figure-- and I'll do maybe
a whole playlist on bond

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mathematics-- you would have to
figure out-- It's based on

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the coupon, what you gave them,
and then what they're

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going to pay you, and when
they're going to do it.

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So it's a little bit more
complicated than just saying,

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oh, look at that, they're giving
a 6% coupon, which

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essentially means twice a year
they're going to give me 3% of

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the value of my bond.

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So just as the big
picture, both of

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these things are traded.

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This is a stock, it's
traded on exchange.

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You're probably familiar that.

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If you go to Yahoo!

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Finance, you type in the ticker
symbol and you get the

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price for that day.

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Bonds are also traded.

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Unfortunately, it's not as easy
to get a quote on a bond.

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Usually you have to
have a Bloomberg

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terminal of some type.

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You can't get it on Yahoo!

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Finance, and I think that's
by design, by bond traders

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because they probably don't like
the transparency there.

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But it is just like a stock.

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It is a security.

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It is traded.

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There is a price.

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But then there's a very
fundamental difference in what

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the holder of the
bond is doing.

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In a bond, you essentially-- if
I'm holding a $1,000 bond,

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that means that I've
lent some amount of

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money to the company.

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And it'll be in this
part of it.

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And as long as a company doesn't
go bankrupt, they'll

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pay me some interest and
pay me my money back.

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When I own a stock in the
company, I own a share of the

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equity, as opposed to a share of
the debt, which is the case

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with the bond.

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When I own a share of the
equity, the company's not

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promising to pay
back anything.

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It's just saying look, you are
a part owner of this company,

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and anything that any of the
owners get, you'll get.

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So if this company becomes
worth a lot.

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If we start dividending out
things to the shareholders,

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then you'll get that.

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If the company gets sold by
someone and pays x dollars per

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share for it, you'll
get that money.

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And if the company
goes bankrupt,

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you'll also go bankrupt.

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So that actually leads to an
interesting question, if the

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company goes bankrupt--
actually, let's do the

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example right now.

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Let's say the company
goes bankrupt.

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And I'll do a more in-depth
example of this.

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The question is, let's say the
company goes bankrupt.

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And people decide that it's not
operational anymore, that

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it just can't do business.

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Because there's actually two
types of bankruptcy.

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There's one where you say, oh,
the business is good, and just

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can't pay off it's debts.

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So we have to somehow
restructure this side of it.

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And then the other type of
bankruptcy is liquidation,

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where they say, you know what?

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This business doesn't
even make sense

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to operate any more.

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Let's just sell off
all of the assets.

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So the question that I'll leave
you with in this video

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is, what happens in a situation
where you enter

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bankruptcy?

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People want to liquidate
the assets.

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And let's say when you liquidate
the assets, there's

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only $8 million of assets.

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So, the question is, who do you
think is going to eat that

00:09:02.650 --> 00:09:03.590
$2 million.

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Is it going to be the
debtholders, or the

00:09:06.470 --> 00:09:07.090
stockholders?

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Who is going to lose their money
first, or you can almost

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say, who is more senior when it
comes to actually getting

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their money back?

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And I'll leave you with that,
maybe to the next video, or a

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future video that I'll
do on bankruptcy.

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See you in the next video.


Equity vs. debt

WEBVTT
Kind: captions
Language: en

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Everything we've talked about
so far with this startup

00:00:04.170 --> 00:00:06.800
company selling socks and all
of that, has been raising

00:00:06.800 --> 00:00:07.710
money from an equity.

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We raised private money-- when
the company was private it

00:00:10.350 --> 00:00:15.980
went to VCs and it went to angel
investors, and maybe you

00:00:15.980 --> 00:00:17.790
could go to your friends and
family to raise money.

00:00:17.790 --> 00:00:20.500
And then the company could go
public and raise money from

00:00:20.500 --> 00:00:21.640
the public markets.

00:00:21.640 --> 00:00:23.000
But there's actually
two ways that a

00:00:23.000 --> 00:00:26.220
company can raise capital.

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So this is why this playlist is
called capital markets, or

00:00:29.125 --> 00:00:32.500
it's part of it, the name
of raise capital.

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Capital is just essentially--
I mean the easy way to think

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about it is you're raising cash
that you want to invest

00:00:38.160 --> 00:00:40.240
in some way to grow your
business or to sustain your

00:00:40.240 --> 00:00:41.820
business or start
your business.

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So everything we talked about so
far was equity, and that's

00:00:47.610 --> 00:00:51.080
essentially selling shares in
your company to raise money.

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And so that's all of
those VC examples.

00:00:54.360 --> 00:00:56.990
The equity investor-- so when
you sell equity, you're

00:00:56.990 --> 00:00:59.070
essentially selling-- you're
kind of making that person

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who's buying the stock-- you
know, an equity is the same

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thing as stock-- you're making
the person who's buying a

00:01:04.920 --> 00:01:06.960
stock kind of a partner
in the company.

00:01:06.960 --> 00:01:09.550
So if the company-- let's say
there's two situations-- if

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the company goes bankrupt-- and
I'll talk a lot more about

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what bankruptcy even means--
but if the company goes

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bankrupt, all the shareholders
end up with nothing.

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They end up with nil.

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But if the company has a lot
of upside, the stock gets a

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lot of upside.

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Because they're partners
in it.

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If this was a company, that
start-up that we talked about,

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if it turns into Amazon.com and
becomes a billion-dollar

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company, everyone is going
to do really well.

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Everyone's going to share
in that upside.

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But there's another way to raise
money, and actually this

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is probably something that's
more familiar at

00:01:43.390 --> 00:01:44.610
the household level.

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I mean at the household level
you never raise equity.

00:01:46.680 --> 00:01:49.860
You never say, you know what--
well you can, but you're not

00:01:49.860 --> 00:01:52.400
going to say hey, I need to buy
a house, why don't I go to

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my rich friend and offer to sell
10% of the stake in my

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house to him and he'll be kind
of a partner in my house.

00:01:59.460 --> 00:02:01.570
That could happen but for the
most part it doesn't.

00:02:01.570 --> 00:02:04.360
Usually when you do something on
a personal level you raise

00:02:04.360 --> 00:02:05.610
money through debt.

00:02:09.710 --> 00:02:10.940
And that's interesting.

00:02:10.940 --> 00:02:15.350
So what's good about debt is
it's-- so let's think about it

00:02:15.350 --> 00:02:18.180
from the point of view of
the person who's lending

00:02:18.180 --> 00:02:20.480
the money to you.

00:02:20.480 --> 00:02:21.880
Debt is just borrowing money.

00:02:26.930 --> 00:02:29.300
I think all of us know what
borrowing money is.

00:02:29.300 --> 00:02:32.830
I go to my rich friend and I say
hey, could I borrow $1 and

00:02:32.830 --> 00:02:34.630
I'll give you $1.25 in a year?

00:02:34.630 --> 00:02:36.340
And he says, OK, you're
good for it.

00:02:36.340 --> 00:02:38.290
But I'm essentially promising
I'm going to give the money

00:02:38.290 --> 00:02:39.860
back at some future date.

00:02:39.860 --> 00:02:42.060
If I sell equity, I'm not
promising anything.

00:02:42.060 --> 00:02:45.240
I'm like hey, I got a great
business, why don't you give

00:02:45.240 --> 00:02:47.700
$1 and then you get a 20%
cut of my business.

00:02:47.700 --> 00:02:50.840
If my business does awesome,
you get 20% of all of the

00:02:50.840 --> 00:02:51.900
profits of my business.

00:02:51.900 --> 00:02:54.010
If my business does horrible,
well you took a risk, you get

00:02:54.010 --> 00:02:55.370
nothing and I get nothing.

00:02:55.370 --> 00:02:59.310
Debt says regardless of how my
business does, if it does

00:02:59.310 --> 00:03:05.160
awesome all you're going
to get is the interest.

00:03:05.160 --> 00:03:05.930
That's kind of the upside.

00:03:05.930 --> 00:03:07.550
So the upside's limited,
right?

00:03:07.550 --> 00:03:11.060
If I borrow money at 9%
interest, all that person's

00:03:11.060 --> 00:03:12.230
going to get is 9%.

00:03:12.230 --> 00:03:17.230
Even if my company becomes the
next Google or Microsoft or

00:03:17.230 --> 00:03:18.810
whatever else, that person's
just going to

00:03:18.810 --> 00:03:20.170
get 9% on their money.

00:03:20.170 --> 00:03:23.440
While this person might have
gotten a hundred times their

00:03:23.440 --> 00:03:24.930
money because they made a bet.

00:03:24.930 --> 00:03:28.080
On the other hand, this downside
is much lower.

00:03:28.080 --> 00:03:30.470
So limited downside.

00:03:30.470 --> 00:03:32.920
Because they're going to get
their money back at a

00:03:32.920 --> 00:03:35.560
certain-- you know, there's a
certain payment schedule.

00:03:35.560 --> 00:03:38.550
And they're going to get their
money back before the

00:03:38.550 --> 00:03:40.740
stockholders-- so let's say
in a situation where the

00:03:40.740 --> 00:03:43.180
company's going into
difficulty-- and we'll do a

00:03:43.180 --> 00:03:47.130
whole playlist on bankruptcy--
the people who lend money to

00:03:47.130 --> 00:03:50.030
the company will see their money
before the stockholders

00:03:50.030 --> 00:03:51.150
see anything.

00:03:51.150 --> 00:03:53.750
So how does all of this come
out from the balance sheet?

00:03:53.750 --> 00:03:57.040
So let's say we have
a public company.

00:03:57.040 --> 00:04:00.430
If you wonder what a CFO at a
company does, this is really

00:04:00.430 --> 00:04:02.370
the main decision that they're
always making.

00:04:02.370 --> 00:04:05.010
Do we raise money-- well, how
do we raise money if we need

00:04:05.010 --> 00:04:07.890
it, and do we raise money from
the equity markets or from the

00:04:07.890 --> 00:04:08.850
debt markets?

00:04:08.850 --> 00:04:12.010
So let's come up with
a company again.

00:04:12.010 --> 00:04:14.840
Let's say that that's
its current assets.

00:04:14.840 --> 00:04:18.450
Not current-- I don't want to
say current assets, it's the

00:04:18.450 --> 00:04:19.649
assets that it currently has.

00:04:19.649 --> 00:04:21.470
Current assets means something
different, and we'll talk

00:04:21.470 --> 00:04:23.090
about that in the future.

00:04:23.090 --> 00:04:25.437
But let's say, so that's
its assets.

00:04:29.970 --> 00:04:31.220
You know it might have
some cash here.

00:04:33.750 --> 00:04:34.920
We'll go into more detail.

00:04:34.920 --> 00:04:37.580
We'll actually look at real
company balance sheets and

00:04:37.580 --> 00:04:40.150
decipher what all of the terms
on the balance sheet mean.

00:04:40.150 --> 00:04:41.830
But that's its assets for now.

00:04:41.830 --> 00:04:44.340
And let's say right now all of
its money it's raised so far

00:04:44.340 --> 00:04:46.970
has been equity.

00:04:46.970 --> 00:04:48.430
And let's say it's a publicly
listed company.

00:04:48.430 --> 00:04:50.480
It doesn't have to be.

00:04:50.480 --> 00:04:59.580
Let's say that's all of its
equity, and let's say it has,

00:04:59.580 --> 00:05:00.980
I don't know, 10
million shares.

00:05:04.550 --> 00:05:06.500
And the other interesting thing
about when a company's

00:05:06.500 --> 00:05:08.750
public-- remember, every time
when a company was private and

00:05:08.750 --> 00:05:11.330
it took an investor, when it
took equity investors, they

00:05:11.330 --> 00:05:13.280
had to sit and have a
negotiation saying what is

00:05:13.280 --> 00:05:14.630
this worth?

00:05:14.630 --> 00:05:16.020
What are these assets worth?

00:05:16.020 --> 00:05:18.470
But what's cool is, is when
you have a publicly traded

00:05:18.470 --> 00:05:21.830
company, these shares are traded
on an exchange, right?

00:05:21.830 --> 00:05:24.330
These shares are on, let's
say it's on the

00:05:24.330 --> 00:05:27.780
New York Stock Exchange.

00:05:27.780 --> 00:05:29.430
So every day you could
go to Yahoo!

00:05:29.430 --> 00:05:33.060
Finance or wherever and you
can look at a chart.

00:05:33.060 --> 00:05:35.000
Let me draw a chart.

00:05:35.000 --> 00:05:36.290
You can draw a chart.

00:05:41.570 --> 00:05:44.150
And we've all seen stock
charts, I think.

00:05:44.150 --> 00:05:46.390
So let's say that this is this
could have been its IPO date

00:05:46.390 --> 00:05:48.010
or it could just be the start
that we're looking at, and

00:05:48.010 --> 00:05:51.540
let's say the stock IPO went up,
and then the whole market

00:05:51.540 --> 00:05:52.380
went down a little bit.

00:05:52.380 --> 00:05:54.530
But the stock-- maybe
it's there, right?

00:05:54.530 --> 00:05:57.660
But on any given, really almost
any given second,

00:05:57.660 --> 00:06:00.750
there's a price that somebody
traded that stock at and it

00:06:00.750 --> 00:06:03.790
might not be the best price,
but it is a price.

00:06:03.790 --> 00:06:05.660
And we'll talk about why that
happens, because you might

00:06:05.660 --> 00:06:09.280
have 10 million shares, and if
only, I don't know, 100 shares

00:06:09.280 --> 00:06:12.040
get traded at any second, or
let's say only 100 shares get

00:06:12.040 --> 00:06:13.870
traded in the day, is that
an indicative price?

00:06:13.870 --> 00:06:15.830
Because that's not
a huge percentage

00:06:15.830 --> 00:06:16.740
of all of the shares.

00:06:16.740 --> 00:06:20.440
But anyway, we'll talk more
about what volume means

00:06:20.440 --> 00:06:23.220
relative to the total float
and all of that.

00:06:23.220 --> 00:06:26.320
But let's say at this split
second the company shares

00:06:26.320 --> 00:06:29.320
traded at $15 a share.

00:06:29.320 --> 00:06:32.640
This is $15, right, at
this second in time.

00:06:32.640 --> 00:06:33.810
This is like right now.

00:06:33.810 --> 00:06:36.720
Traded at $15 a share, and you
could look it up on your

00:06:36.720 --> 00:06:38.740
Bloomberg terminal
or whatever else.

00:06:38.740 --> 00:06:41.450
So essentially the market
is providing us a

00:06:41.450 --> 00:06:43.180
value for this company.

00:06:43.180 --> 00:06:46.400
The market is saying wow, the
market is willing to trade the

00:06:46.400 --> 00:06:47.390
share at $15.

00:06:47.390 --> 00:06:49.610
There was a willing buyer and
a willing seller at exactly

00:06:49.610 --> 00:06:51.390
$15 a share.

00:06:51.390 --> 00:06:54.450
So that means that the market at
that moment is valuing this

00:06:54.450 --> 00:06:57.880
company at $15 per share times
10 million shares.

00:06:57.880 --> 00:07:05.040
So $15 per share times 10
million shares-- not

00:07:05.040 --> 00:07:06.290
necessarily a dollar sign.

00:07:08.620 --> 00:07:13.090
So the market is assigning
a, 15 times 10 is 100.

00:07:13.090 --> 00:07:17.560
$150 million market cap.

00:07:17.560 --> 00:07:22.640
Market capitalization
for the company.

00:07:22.640 --> 00:07:25.350
And you could look on the kind
of, I think it's the key

00:07:25.350 --> 00:07:26.590
statistics tab on Yahoo!

00:07:26.590 --> 00:07:29.260
Finance, and you'll see market
capitalization for a company.

00:07:29.260 --> 00:07:33.200
And it's just the number
of shares times the

00:07:33.200 --> 00:07:34.630
price of the shares.

00:07:34.630 --> 00:07:37.380
This is essentially what
the market's value

00:07:37.380 --> 00:07:38.240
of the equity is.

00:07:38.240 --> 00:07:40.680
The market is saying that
this piece right here

00:07:40.680 --> 00:07:43.600
is worth $150 million.

00:07:43.600 --> 00:07:47.030
And since this piece is the same
size as the assets, we

00:07:47.030 --> 00:07:49.190
have nothing else on the
right-hand side, the market's

00:07:49.190 --> 00:07:52.020
essentially saying that the
assets right now are worth

00:07:52.020 --> 00:07:53.820
$150 million.

00:07:53.820 --> 00:07:55.320
And these aren't always
going to be equal.

00:07:55.320 --> 00:07:57.960
We'll see probably in a few
videos when you start raising

00:07:57.960 --> 00:08:01.000
debt you have to do an extra
calculation to figure out what

00:08:01.000 --> 00:08:03.870
the asset value or-- and I'll
throw out a new term here, the

00:08:03.870 --> 00:08:06.020
enterprise value
of the firm is.

00:08:06.020 --> 00:08:09.850
The enterprise value's
essentially the asset value

00:08:09.850 --> 00:08:12.600
minus excess cash.

00:08:12.600 --> 00:08:14.750
The cash the company really
doesn't need to operate.

00:08:14.750 --> 00:08:16.590
And we'll go into more
detail of that.

00:08:16.590 --> 00:08:18.950
But we'll just view it as
the assets for now.

00:08:18.950 --> 00:08:21.850
So if I'm the CFO of this
company, and let's say we need

00:08:21.850 --> 00:08:25.710
to raise another, I don't
know, $15 million.

00:08:25.710 --> 00:08:27.520
I have two options.

00:08:27.520 --> 00:08:32.359
I could say OK, the company is
trading at $15 per share, I

00:08:32.359 --> 00:08:36.049
need to raise $15 million,
so I could issue

00:08:36.049 --> 00:08:38.280
another million shares.

00:08:38.280 --> 00:08:40.360
It wouldn't be the initial
public offering because I'm

00:08:40.360 --> 00:08:41.360
already public.

00:08:41.360 --> 00:08:43.490
It would be a follow-on
offering, or sometimes it's

00:08:43.490 --> 00:08:44.620
called a secondary offering.

00:08:44.620 --> 00:08:47.410
Although the word secondary has
kind of two connotations.

00:08:47.410 --> 00:08:50.810
But it would be a follow-on
offering where I would issue,

00:08:50.810 --> 00:08:53.320
I'd go to the board, we would
essentially create another

00:08:53.320 --> 00:08:56.470
million shares, and then sell
them into the market, and

00:08:56.470 --> 00:08:59.470
hopefully people will buy it at
$15 a share or probably a

00:08:59.470 --> 00:09:01.250
little bit less because we're
kind of flooding the market

00:09:01.250 --> 00:09:02.420
with a ton of shares.

00:09:02.420 --> 00:09:04.820
Maybe they buy it at $14
per share, and we

00:09:04.820 --> 00:09:08.610
would raise $14 million.

00:09:08.610 --> 00:09:10.060
And that would be a follow-on
offering.

00:09:10.060 --> 00:09:12.600
So we can always use the public
markets as a way to

00:09:12.600 --> 00:09:13.780
raise more money.

00:09:13.780 --> 00:09:15.830
We didn't have to go to all
this-- I mean, for the most

00:09:15.830 --> 00:09:17.940
part we didn't have to do this
huge valuation exercise and

00:09:17.940 --> 00:09:22.610
negotiations and do all of this,
hire banks and all that.

00:09:22.610 --> 00:09:24.290
Although the banks will
still collect fees.

00:09:24.290 --> 00:09:26.750
We actually would have to
hire banks to do this.

00:09:26.750 --> 00:09:27.730
So that's one option.

00:09:27.730 --> 00:09:30.540
Or the other option is we're an
established company, we're

00:09:30.540 --> 00:09:32.200
generating cash, we could
make interest

00:09:32.200 --> 00:09:33.380
payments if we want to.

00:09:33.380 --> 00:09:34.380
We could go to a bank.

00:09:34.380 --> 00:09:36.100
And actually there's a lot of
different ways to do this.

00:09:36.100 --> 00:09:38.030
But we could essentially
borrow money.

00:09:38.030 --> 00:09:39.050
And let's just say we do that.

00:09:39.050 --> 00:09:41.500
Instead of doing this--
let's say we do both.

00:09:41.500 --> 00:09:43.870
So let's say we did a $1 million
follow-on offering,

00:09:43.870 --> 00:09:47.130
that gave us $14 million.

00:09:47.130 --> 00:09:50.400
And let's say we want another
$2 million, but this time

00:09:50.400 --> 00:09:52.030
instead of selling shares--
so right now how many

00:09:52.030 --> 00:09:52.470
shares do we have?

00:09:52.470 --> 00:09:53.880
We sold 1 million, we
had 10 million, we

00:09:53.880 --> 00:09:57.580
have 11 million shares.

00:09:57.580 --> 00:10:00.310
Let's say, you know what, let's
say as a CFO I feel like

00:10:00.310 --> 00:10:02.500
our shares are going to
move up a lot more.

00:10:02.500 --> 00:10:05.830
So we don't like selling
them at this low price.

00:10:05.830 --> 00:10:08.060
And let's say interest
rates are really low.

00:10:08.060 --> 00:10:10.270
Instead we're going
to borrow money.

00:10:10.270 --> 00:10:12.640
That's essentially
raising debt.

00:10:12.640 --> 00:10:18.480
So let's say we borrow another
$3 million because we need it.

00:10:18.480 --> 00:10:23.280
So actually this would be debt,
$3 million of debt, and

00:10:23.280 --> 00:10:25.625
we would get $3 million
of cash.

00:10:32.000 --> 00:10:37.340
So now our assets are
all of this stuff on

00:10:37.340 --> 00:10:40.040
the left-hand side.

00:10:40.040 --> 00:10:41.850
And what are our liabilities
now?

00:10:41.850 --> 00:10:43.590
Now, we didn't have liabilities
before because

00:10:43.590 --> 00:10:44.690
everything we had
were equities.

00:10:44.690 --> 00:10:45.340
But now we do.

00:10:45.340 --> 00:10:49.340
Now we owe somebody $3
million right here.

00:10:49.340 --> 00:10:51.560
And I'll talk more about all the
different ways to kind of

00:10:51.560 --> 00:10:52.660
borrow money.

00:10:52.660 --> 00:10:55.180
But it's essentially, it could
just literally be a bank loan.

00:10:55.180 --> 00:10:57.580
They might have just gone to
Bank of America and said hey,

00:10:57.580 --> 00:11:00.730
we're a big company and we're
good for the money, why don't

00:11:00.730 --> 00:11:02.260
you lend us $3 million.

00:11:02.260 --> 00:11:06.020
And maybe it would be $3 million
at a low interest

00:11:06.020 --> 00:11:08.930
rate, at maybe 6% per year.

00:11:08.930 --> 00:11:11.710
And Bank of America feels good
because you have a high--

00:11:11.710 --> 00:11:14.190
we'll talk more about credit
ratings and all of that-- but

00:11:14.190 --> 00:11:16.670
they say oh, you have
essentially a good company

00:11:16.670 --> 00:11:18.020
credit score.

00:11:18.020 --> 00:11:19.810
So we'll give it to you at
a low interest rate.

00:11:19.810 --> 00:11:22.720
So what happens in the future
is, these assets are going to

00:11:22.720 --> 00:11:24.980
generate, hopefully,
some cash.

00:11:24.980 --> 00:11:28.250
And before these guys see it--
let me do to it in the--

00:11:28.250 --> 00:11:31.330
before these equity holders--
this is the equity holders

00:11:31.330 --> 00:11:33.820
right now-- before the equity
holders see anything, these

00:11:33.820 --> 00:11:36.750
guys have to get paid their
interest. And I'll show you

00:11:36.750 --> 00:11:39.260
all of that on a line-by-line
basis in an income statement.

00:11:39.260 --> 00:11:42.960
Everything we've done so far
has been a balance sheet.

00:11:42.960 --> 00:11:44.970
But something interesting
is happening now.

00:11:44.970 --> 00:11:47.913
Now all of a sudden your assets,
which is that side-- I

00:11:47.913 --> 00:11:50.820
know I just keep writing over
the same drawing-- your assets

00:11:50.820 --> 00:11:53.700
are now larger than
your equity.

00:11:53.700 --> 00:11:55.700
I think now, and this is just
kind of a review of the

00:11:55.700 --> 00:12:02.730
balance sheet video, you see
that the assets are equal to

00:12:02.730 --> 00:12:09.390
your equity, which is this right
here, your equity plus

00:12:09.390 --> 00:12:10.340
your liabilities.

00:12:10.340 --> 00:12:13.170
Your liabilities now
are $3 million.

00:12:13.170 --> 00:12:14.930
Plus liabilities.

00:12:14.930 --> 00:12:17.740
So if you wanted to know what
your assets are worth, because

00:12:17.740 --> 00:12:21.090
your assets are equal
to your equity.

00:12:21.090 --> 00:12:25.050
So what's your market value
of your equity?

00:12:25.050 --> 00:12:26.490
Well, we figured that
out already.

00:12:26.490 --> 00:12:28.760
We have 11 million shares now.

00:12:28.760 --> 00:12:32.630
And let's say the stock plummets
to $10 a share for

00:12:32.630 --> 00:12:35.620
some strange reason or for
a not-strange reason.

00:12:35.620 --> 00:12:39.530
So what's the market cap? $10 a
share, 11 million shares, we

00:12:39.530 --> 00:12:41.920
have a $110 million
market cap.

00:12:41.920 --> 00:12:43.270
We're doing a market value.

00:12:43.270 --> 00:12:44.980
And we'll talk more about the
difference between market and

00:12:44.980 --> 00:12:45.430
book value.

00:12:45.430 --> 00:12:47.460
But this is the market
value of your equity.

00:12:47.460 --> 00:12:49.470
And then what is your
liabilities?

00:12:49.470 --> 00:12:55.090
Well we owe $3 million,
so plus 3 million.

00:12:55.090 --> 00:12:58.160
So we could say that for the
most part the market value of

00:12:58.160 --> 00:13:01.340
our assets, the market thinks
that this entire left-hand

00:13:01.340 --> 00:13:07.430
side is going to be worth the
value of our equity, the

00:13:07.430 --> 00:13:10.490
market cap of the company, plus
the amount of debt, which

00:13:10.490 --> 00:13:14.460
is equal to $113 million.

00:13:14.460 --> 00:13:18.590
So the value of these assets are
$113 million, and that for

00:13:18.590 --> 00:13:20.610
the most part is the enterprise

00:13:20.610 --> 00:13:21.720
value of the company.

00:13:21.720 --> 00:13:24.490
What is the company's
assets worth?

00:13:24.490 --> 00:13:26.610
And we'll talk-- there's a
little bit of a tweak we'll do

00:13:26.610 --> 00:13:28.550
in the future on enterprise
value.

00:13:28.550 --> 00:13:31.520
But that's essentially how you
kind of can value what the

00:13:31.520 --> 00:13:32.690
company's worth.

00:13:32.690 --> 00:13:35.410
A lot of people when they do
a market capitalization

00:13:35.410 --> 00:13:36.640
calculation they say
oh, that's what

00:13:36.640 --> 00:13:37.490
the company's worth.

00:13:37.490 --> 00:13:39.720
Well no, that's what the
equity is worth.

00:13:39.720 --> 00:13:41.670
Market cap is what the
equity's worth.

00:13:41.670 --> 00:13:43.856
If you want to know what the
company's worth, you have to

00:13:43.856 --> 00:13:48.460
take the market cap and
then add the debt.

00:13:48.460 --> 00:13:51.150
Another way-- well, I won't get
too complicated because I

00:13:51.150 --> 00:13:52.270
just realized I've run
out of time again.

00:13:52.270 --> 00:13:54.110
See you in the next video.


More on IPOs

WEBVTT
Kind: captions
Language: en

00:00:00.780 --> 00:00:03.240
I think a little bit of a review
is in order now and

00:00:03.240 --> 00:00:05.880
maybe just taking a little bit
of a step back to say well,

00:00:05.880 --> 00:00:08.210
why does a company even
raise equity?

00:00:08.210 --> 00:00:11.330
And why do the people who buy
the equity even do it in the

00:00:11.330 --> 00:00:12.370
first place?

00:00:12.370 --> 00:00:15.950
So the whole idea of what we
were doing in the last several

00:00:15.950 --> 00:00:23.180
videos is that a company wants
to raise money to start a

00:00:23.180 --> 00:00:25.790
website, or build a factory, or
do whatever else-- kind of

00:00:25.790 --> 00:00:28.770
invest in the world and in its
kind of productive capacity,

00:00:28.770 --> 00:00:30.040
so it can build the
things that the

00:00:30.040 --> 00:00:31.380
company is meant to build.

00:00:31.380 --> 00:00:34.665
And in every example so far--
we have the example where me

00:00:34.665 --> 00:00:37.300
and my buddies, we have
just a business

00:00:37.300 --> 00:00:39.730
plan, that's the asset.

00:00:39.730 --> 00:00:42.310
And then we own all
the equity.

00:00:42.310 --> 00:00:44.540
We're the board of directors
initially.

00:00:44.540 --> 00:00:46.145
So that's all the equity.

00:00:46.145 --> 00:00:50.570
So let's call this the
assets right now.

00:00:50.570 --> 00:00:52.040
This is the equity.

00:00:52.040 --> 00:00:53.700
And we could go to a venture
capitalist-- it could have

00:00:53.700 --> 00:00:54.760
been an angel investor.

00:00:54.760 --> 00:00:57.340
It could have been-- we
talked about Series A,

00:00:57.340 --> 00:00:59.110
Series B, all of that.

00:00:59.110 --> 00:01:03.820
And we could say OK, we need
to raise x million dollars.

00:01:03.820 --> 00:01:06.430
What percentage of your company
do we have to give

00:01:06.430 --> 00:01:07.010
away for that?

00:01:07.010 --> 00:01:10.520
And it'll say OK, well we'll
value what you have right

00:01:10.520 --> 00:01:12.240
now-- I'll do a different number
than what I did in the

00:01:12.240 --> 00:01:16.260
past-- we'll value what you have
right now as $1 million.

00:01:16.260 --> 00:01:20.870
And so, if you need another $2
million-- so let's say we

00:01:20.870 --> 00:01:22.700
value what you have right
now as $1 million.

00:01:22.700 --> 00:01:28.230
Let's say right now you have
one million shares.

00:01:28.230 --> 00:01:30.740
So the company's pre-money
valuation is $1 million.

00:01:30.740 --> 00:01:34.000
So you are essentially saying
that the company right now is

00:01:34.000 --> 00:01:34.820
worth a dollar per share.

00:01:34.820 --> 00:01:37.670
There's $1 million worth of
assets, and there's a million

00:01:37.670 --> 00:01:40.530
shares, so a million divided by
a million is $1 per share.

00:01:40.530 --> 00:01:44.250
So they're valuing it
at $1 per share.

00:01:44.250 --> 00:01:46.890
And essentially they're saying
that we're willing to give

00:01:46.890 --> 00:01:50.630
you, or we're willing to buy
more shares from you at $1.

00:01:50.630 --> 00:01:55.000
So, if we give you-- let me see,
let me do green, I'll do

00:01:55.000 --> 00:01:59.300
a different color, I'll do
purple-- we'll give you-- draw

00:01:59.300 --> 00:02:05.130
the box-- we'll give you, I
don't know, $2 million.

00:02:10.130 --> 00:02:12.820
And since we're buying it at
$1 per share, we get two

00:02:12.820 --> 00:02:14.070
million shares for that.

00:02:18.210 --> 00:02:21.010
And now all of this
is the equity.

00:02:21.010 --> 00:02:24.270
This is what the founders had,
and this is all the equity.

00:02:24.270 --> 00:02:28.330
And so now the company has
what we say was worth a

00:02:28.330 --> 00:02:28.870
million dollars.

00:02:28.870 --> 00:02:30.260
And this is kind of an arbitrary
thing, and we'll

00:02:30.260 --> 00:02:32.370
talk more about how you can
actually value these

00:02:32.370 --> 00:02:34.230
intangible assets and things.

00:02:34.230 --> 00:02:36.410
But now they had that, and now
they have another $2 million.

00:02:36.410 --> 00:02:38.770
So the post-money valuation--
pre-money was $1 million--

00:02:38.770 --> 00:02:41.180
post-money is now $2 million.

00:02:41.180 --> 00:02:43.560
And now, we had one million
shares, now we have three

00:02:43.560 --> 00:02:44.970
million shares.

00:02:44.970 --> 00:02:48.050
So essentially, for giving
$2 million, these venture

00:02:48.050 --> 00:02:50.900
capitalists, or whoever-- so
these shares go to some VC or

00:02:50.900 --> 00:02:54.060
angel investor-- they have
now 2/3 of the company.

00:02:54.060 --> 00:02:56.580
They have two out of three
million shares, or 66% of the

00:02:56.580 --> 00:02:58.400
company for giving
the $2 million.

00:02:58.400 --> 00:03:01.850
So that was kind of a private
raise of capital.

00:03:01.850 --> 00:03:04.040
And so you've probably heard the
words private company and

00:03:04.040 --> 00:03:05.330
public company.

00:03:05.330 --> 00:03:08.860
A private company is one whose
shares are not traded on a

00:03:08.860 --> 00:03:10.040
public exchange.

00:03:10.040 --> 00:03:14.480
So if this company wants to
raise money by selling equity,

00:03:14.480 --> 00:03:16.920
the only place it can do it is
to venture capitalists or to

00:03:16.920 --> 00:03:18.810
private equity firms. And we'll
talk a little bit more

00:03:18.810 --> 00:03:20.250
about kind of the difference.

00:03:20.250 --> 00:03:22.450
A venture capitalist really is
a private equity firm because

00:03:22.450 --> 00:03:23.590
it's buying private equity.

00:03:23.590 --> 00:03:26.760
But private equity tends to
invest in more established

00:03:26.760 --> 00:03:27.930
business, when people
just talk about

00:03:27.930 --> 00:03:28.990
private equity by itself.

00:03:28.990 --> 00:03:31.360
But we'll do several
videos on that.

00:03:31.360 --> 00:03:33.680
So this is, essentially, this
company is a private company

00:03:33.680 --> 00:03:35.480
raising private equity.

00:03:35.480 --> 00:03:39.290
Now, the example we did in the
last video is, let's say this

00:03:39.290 --> 00:03:40.500
company grows to
a certain size.

00:03:40.500 --> 00:03:43.640
Let me just do another company
so it's clean.

00:03:43.640 --> 00:03:48.010
Let's say I have another
company, these are its assets.

00:03:48.010 --> 00:03:50.920
And this is its-- let
me draw its current

00:03:50.920 --> 00:03:55.530
equity base right there.

00:03:55.530 --> 00:03:58.060
They should be the same size,
but you get the idea-- and

00:03:58.060 --> 00:04:02.390
these assets, it could
be it has some cash.

00:04:02.390 --> 00:04:05.020
It has some factories or land.

00:04:05.020 --> 00:04:06.190
It could have a bunch
of stuff.

00:04:06.190 --> 00:04:08.370
It could have some technology,
or we could have some

00:04:08.370 --> 00:04:10.460
intellectual property.

00:04:10.460 --> 00:04:12.120
Maybe it's a drug company,
or maybe it's

00:04:12.120 --> 00:04:12.950
a technology company.

00:04:12.950 --> 00:04:14.190
It has a bunch of patents
and stuff.

00:04:14.190 --> 00:04:16.310
And then it has some
intangibles-- a brand-- who

00:04:16.310 --> 00:04:17.110
knows what it has.

00:04:17.110 --> 00:04:18.730
These are the assets
of the firm.

00:04:18.730 --> 00:04:19.990
This is the equity
of the firm.

00:04:19.990 --> 00:04:21.529
So this company right
now has no debt.

00:04:21.529 --> 00:04:22.790
And we'll talk about that
in a second, what it

00:04:22.790 --> 00:04:26.110
means to have debt.

00:04:26.110 --> 00:04:28.040
And this is its current
shareholder base, maybe some

00:04:28.040 --> 00:04:31.160
of these are some VCs who
invested in the company when

00:04:31.160 --> 00:04:32.900
it was private.

00:04:32.900 --> 00:04:34.370
Maybe the founder has
these shares.

00:04:34.370 --> 00:04:36.600
But this is the equity
base right here.

00:04:36.600 --> 00:04:39.460
And let's say this company wants
to raise a lot of money,

00:04:39.460 --> 00:04:41.690
and as just kind of a review of
the last video, it can do

00:04:41.690 --> 00:04:42.980
an initial public offering.

00:04:42.980 --> 00:04:44.850
So right now it's private.

00:04:44.850 --> 00:04:50.380
All of these shares right now
that are owned by the VCs and

00:04:50.380 --> 00:04:53.110
the initial founders of the
company, they are not traded

00:04:53.110 --> 00:04:54.020
on a public exchange.

00:04:54.020 --> 00:04:57.240
This VC can't go to the NASDAQ
and sell their shares.

00:04:57.240 --> 00:04:59.390
They can't go to the broker and
say hey, sell my million

00:04:59.390 --> 00:05:01.130
shares I have in Company X.

00:05:01.130 --> 00:05:02.040
They have to just sit on them.

00:05:02.040 --> 00:05:05.510
Maybe they can find another
private equity investor to buy

00:05:05.510 --> 00:05:08.940
their shares, or maybe these
founders-- there's no

00:05:08.940 --> 00:05:09.700
liquidity here.

00:05:09.700 --> 00:05:12.110
There's no other person they
can sell the shares to.

00:05:12.110 --> 00:05:14.440
And also, if this company wants
to raise money right now

00:05:14.440 --> 00:05:18.880
it has to kind of go to a VC and
do the whole process where

00:05:18.880 --> 00:05:20.770
you negotiate what this
value is-- what the

00:05:20.770 --> 00:05:21.800
pre-money value is.

00:05:21.800 --> 00:05:24.250
And they have to come up with
all these legal documents, and

00:05:24.250 --> 00:05:28.280
all of these stipulations
around, we'll give you this

00:05:28.280 --> 00:05:30.200
money, but if this happens, then
you have to give us this

00:05:30.200 --> 00:05:30.880
interest rate.

00:05:30.880 --> 00:05:33.650
And just all these
type of things.

00:05:33.650 --> 00:05:35.140
So, what they might want
to say is, we need to

00:05:35.140 --> 00:05:36.560
raise a lot of money.

00:05:36.560 --> 00:05:39.600
All of these guys want a way
for them to be able to sell

00:05:39.600 --> 00:05:41.470
their shares easily
if they need to.

00:05:41.470 --> 00:05:44.070
And this company says well, we
need to raise a ton of money.

00:05:44.070 --> 00:05:46.130
Let's say we want to
raise $100 million.

00:05:46.130 --> 00:05:48.890
And that's hard to raise from
just any one individual

00:05:48.890 --> 00:05:51.070
investor, even if they are
a big institution.

00:05:51.070 --> 00:05:53.050
So they'll do an initial public
offering, and that

00:05:53.050 --> 00:05:56.100
really just means and-- the IPO,
and this is review of the

00:05:56.100 --> 00:05:59.050
last one-- is that for the first
time this company is

00:05:59.050 --> 00:06:04.110
going to register its shares
with the SEC, and because it

00:06:04.110 --> 00:06:06.880
does, it's going to list its
shares on an exchange.

00:06:06.880 --> 00:06:09.930
It will get a ticker symbol,
it will maybe be company--

00:06:09.930 --> 00:06:13.740
this'll be its ticker, T-I-C-K,
or in the last video

00:06:13.740 --> 00:06:16.400
could be SOCKS, because it's
going to sell socks.

00:06:16.400 --> 00:06:20.620
And then people can trade these
shares on that exchange.

00:06:20.620 --> 00:06:22.650
It could be on the NASDAQ
or something.

00:06:22.650 --> 00:06:25.500
And I think some of you all have
had experience doing that

00:06:25.500 --> 00:06:28.520
where you go on your Charles
Schwab account and you say I'm

00:06:28.520 --> 00:06:29.580
going to sell SOCK.

00:06:29.580 --> 00:06:32.425
Well, that company that you're
selling, at some point, did an

00:06:32.425 --> 00:06:35.590
initial public offering, and
registered with the SEC, and

00:06:35.590 --> 00:06:37.110
got listed on an exchange.

00:06:37.110 --> 00:06:40.590
And the way it really works
is, it's fundamentally the

00:06:40.590 --> 00:06:42.760
same as when you raise
money from a VC.

00:06:42.760 --> 00:06:48.060
But now, instead of raising
money from a VC, all the money

00:06:48.060 --> 00:06:52.160
comes from, essentially,
the public.

00:06:52.160 --> 00:06:54.670
It goes through these banks
and brokerages, but it's

00:06:54.670 --> 00:06:57.400
coming from a bunch of
small-- I'm just

00:06:57.400 --> 00:06:58.710
divvying it up right here.

00:06:58.710 --> 00:07:00.520
It could be coming
from millions

00:07:00.520 --> 00:07:01.730
and millions of people.

00:07:01.730 --> 00:07:03.740
But the same process
kind of holds.

00:07:03.740 --> 00:07:07.190
In order to see what price these
shares are bought at,

00:07:07.190 --> 00:07:09.760
someone has to say well, what is
the company worth before it

00:07:09.760 --> 00:07:11.330
gets the money?

00:07:11.330 --> 00:07:13.370
What is the company worth before
it gets this money?

00:07:13.370 --> 00:07:14.740
Kind of a pre-money valuation.

00:07:14.740 --> 00:07:16.280
That still has to happen,
and that's what the

00:07:16.280 --> 00:07:17.265
investment bank does.

00:07:17.265 --> 00:07:19.905
The investment bank will
essentially do a model and

00:07:19.905 --> 00:07:22.680
they'll say oh, this is worth--
the company beforehand

00:07:22.680 --> 00:07:27.250
was worth $50 million.

00:07:27.250 --> 00:07:29.440
They'll kind of go out into the
market to say well, our--

00:07:29.440 --> 00:07:33.820
and let's say the company
right now has

00:07:33.820 --> 00:07:35.830
five million shares.

00:07:35.830 --> 00:07:38.180
So that this piece right
here is five million.

00:07:38.180 --> 00:07:41.232
So if the banks value the
company at $50 million, and it

00:07:41.232 --> 00:07:43.330
has five million shares, they'll
say OK, right now, the

00:07:43.330 --> 00:07:46.070
pre-money valuation
is $10 a share.

00:07:46.070 --> 00:07:47.180
And the bank will
go out there.

00:07:47.180 --> 00:07:50.990
It'll kind of gauge interest
and say well, does it seem

00:07:50.990 --> 00:07:53.070
like the market's willing
to pay $10 a share for a

00:07:53.070 --> 00:07:53.730
company like this?

00:07:53.730 --> 00:07:59.010
Or give this company a $50
million pre-money valuation?

00:07:59.010 --> 00:08:02.880
And if so, they'll move
forth with the IPO.

00:08:02.880 --> 00:08:05.640
And, hopefully, the market
actually wants to

00:08:05.640 --> 00:08:06.660
not pay $10 per share.

00:08:06.660 --> 00:08:08.720
The market maybe wants
to pay $20 a share.

00:08:08.720 --> 00:08:12.540
So all of these guys, let's say
they'll pay $10 a share,

00:08:12.540 --> 00:08:18.420
so let's say that they sell 10
million shares at $10 a share.

00:08:18.420 --> 00:08:21.670
So the company is able to
raise $100 million.

00:08:21.670 --> 00:08:24.330
10 times $10, $100 million.

00:08:24.330 --> 00:08:27.590
Then they can do big ads
and all of that.

00:08:27.590 --> 00:08:31.880
And what the bank hopes is by
selling these shares at $10 a

00:08:31.880 --> 00:08:38.940
share-- so let's say this is
days, and this is price.

00:08:38.940 --> 00:08:42.200
Let me change colors-- so what
the investment bank wants to

00:08:42.200 --> 00:08:45.050
hope is that, on day one, you
sell it at $10 a share, and

00:08:45.050 --> 00:08:46.100
then the price moves up.

00:08:46.100 --> 00:08:48.210
That the demand was actually
to sell it for much more.

00:08:48.210 --> 00:08:50.080
And there's a bit of a balancing
act, because if they

00:08:50.080 --> 00:08:51.980
sell for too little, then the
company won't get as much

00:08:51.980 --> 00:08:53.140
money as it deserves.

00:08:53.140 --> 00:08:55.580
But if they sell for too much,
then the stock price goes

00:08:55.580 --> 00:08:57.310
down, then you kind
of have a stigma

00:08:57.310 --> 00:08:59.060
associated with the IPO.

00:08:59.060 --> 00:09:02.800
But anyway, this begs the
question of sure, I understand

00:09:02.800 --> 00:09:04.090
why the company is
selling shares.

00:09:04.090 --> 00:09:04.720
It needs money.

00:09:04.720 --> 00:09:06.210
It needs to operate.

00:09:06.210 --> 00:09:07.850
It needs to build factories
or put out

00:09:07.850 --> 00:09:08.710
advertising, and all that.

00:09:08.710 --> 00:09:10.630
But why are people buying
shares to begin with?

00:09:10.630 --> 00:09:13.340
Why do people buy shares
in the stock market?

00:09:13.340 --> 00:09:15.420
And frankly, there's
two answers.

00:09:15.420 --> 00:09:17.740
And one is kind of the obvious
one, because they think the

00:09:17.740 --> 00:09:18.940
shares will go up.

00:09:18.940 --> 00:09:21.150
But to some degree, that's
speculation.

00:09:21.150 --> 00:09:24.980
If I'm buying a share at $10,
just because I'm hoping that

00:09:24.980 --> 00:09:27.100
there's some other dude out
there who, maybe a few weeks

00:09:27.100 --> 00:09:30.070
later, is going to pay $15,
I'm just speculating.

00:09:30.070 --> 00:09:31.880
I'm just saying oh, IPOs
go up so let me buy it.

00:09:31.880 --> 00:09:36.500
But, economically, why
was this even worth

00:09:36.500 --> 00:09:38.430
$10 to begin with?

00:09:38.430 --> 00:09:41.250
How do we even think about that
valuation, at a very even

00:09:41.250 --> 00:09:43.270
high level, why is this
even worth $10 a

00:09:43.270 --> 00:09:44.670
share to begin with?

00:09:44.670 --> 00:09:48.490
And the idea is that these
assets-- assets are nothing

00:09:48.490 --> 00:09:51.640
but claims on future
benefits, right?

00:09:51.640 --> 00:09:55.180
A house is an asset because you
get the future benefit of

00:09:55.180 --> 00:09:56.380
getting to live in it, right?

00:09:56.380 --> 00:09:59.310
Or the future benefit of
not having to pay rent.

00:09:59.310 --> 00:10:02.510
So, the future benefit of these
is, they'll hopefully,

00:10:02.510 --> 00:10:05.850
at some point in the future,
generate an income stream.

00:10:05.850 --> 00:10:07.650
And even more, they'll
generate cash.

00:10:07.650 --> 00:10:09.510
And at some point in the future,
and a lot of companies

00:10:09.510 --> 00:10:11.010
don't do it right now,
they'll actually

00:10:11.010 --> 00:10:12.140
dividend out that cash.

00:10:12.140 --> 00:10:17.210
So there's a couple of things
that will make this equity

00:10:17.210 --> 00:10:20.420
have kind of an economic-- it'll
ground it economically.

00:10:20.420 --> 00:10:23.650
And it could be these assets
starting to pump out cash, and

00:10:23.650 --> 00:10:28.030
then each of the shareholders
will get a dividend.

00:10:28.030 --> 00:10:30.870
A dividend is just cash that is
given to the shareholders.

00:10:30.870 --> 00:10:34.710
So let's say that this is a
stock certificate in SOCK.

00:10:34.710 --> 00:10:38.010
So at some point when the assets
of this company start

00:10:38.010 --> 00:10:40.380
generating cash, each of the
shareholders might be getting

00:10:40.380 --> 00:10:41.590
a dividend.

00:10:41.590 --> 00:10:45.570
Or maybe a large company, at
some future date, says wow,

00:10:45.570 --> 00:10:47.270
this is an awesome technology.

00:10:47.270 --> 00:10:49.900
It'll complement what we
already have. And maybe

00:10:49.900 --> 00:10:50.850
they'll buy out the company.

00:10:50.850 --> 00:10:55.650
Maybe they'll pay $300 million
for this company.

00:10:55.650 --> 00:10:59.350
And then, essentially, they're
paying $300 million-- and

00:10:59.350 --> 00:11:00.880
there's, what, fifteen
million shares?

00:11:00.880 --> 00:11:02.390
So they're paying $20 a share.

00:11:02.390 --> 00:11:05.820
So those are the economic kind
of grounding points that why

00:11:05.820 --> 00:11:07.170
these shares even
have a value.

00:11:07.170 --> 00:11:09.940
And I'll go into a lot more
detail, I'll do a whole

00:11:09.940 --> 00:11:13.770
playlist on how do you even
think about whether this is

00:11:13.770 --> 00:11:16.960
worth $50 million, or is it
worth $5 million, or is it

00:11:16.960 --> 00:11:17.940
worth $500 million.

00:11:17.940 --> 00:11:21.620
And it's kind of an art, more
than a science, because you're

00:11:21.620 --> 00:11:23.730
going to make tons of
assumptions in terms of how

00:11:23.730 --> 00:11:27.490
fast the company grows, what's
the risk free rate of return

00:11:27.490 --> 00:11:29.330
that you could get
on other assets?

00:11:29.330 --> 00:11:31.380
Essentially, where else you
could you put your money?

00:11:31.380 --> 00:11:34.210
When does the company dividend
out its-- there's so many

00:11:34.210 --> 00:11:35.810
assumptions, so it's
more of an art.

00:11:35.810 --> 00:11:38.670
So it's really kind of you try
to get a handle on things.

00:11:38.670 --> 00:11:40.450
But there's no real
right answer.

00:11:40.450 --> 00:11:42.190
The real right answer is kind
of what someone's willing to

00:11:42.190 --> 00:11:43.320
pay for it.

00:11:43.320 --> 00:11:46.240
But anyway, I'll see you
in the next video.


An IPO

WEBVTT
Kind: captions
Language: en

00:00:00.900 --> 00:00:03.110
In the last offer--
in the last video,

00:00:03.110 --> 00:00:04.110
not the last offering.

00:00:04.110 --> 00:00:05.690
I guess it was a bit of both.

00:00:05.690 --> 00:00:07.480
We had completed our Series B.

00:00:07.480 --> 00:00:08.800
We had gone back to the till.

00:00:08.800 --> 00:00:11.050
Got another round of venture
capital funding.

00:00:11.050 --> 00:00:14.790
And we raised $10 million more
that's going to help us build

00:00:14.790 --> 00:00:17.610
out the website and do some
marketing, and hire up some

00:00:17.610 --> 00:00:19.720
more engineers and
other employees.

00:00:19.720 --> 00:00:22.810
And to do that we had to sell
one million shares.

00:00:22.810 --> 00:00:24.550
We essentially sold them
at $10 a share.

00:00:24.550 --> 00:00:27.475
And so after that offering,
well, our pre-money valuation

00:00:27.475 --> 00:00:35.380
was $30 million and our
post-money is now $40 million.

00:00:35.380 --> 00:00:39.910
That's the value of our assets
as-- I mean, the website,

00:00:39.910 --> 00:00:41.560
that's kind of an arbitrary
valuation.

00:00:41.560 --> 00:00:43.880
And I've gotten a letter
asking, well, how

00:00:43.880 --> 00:00:44.720
do you value that?

00:00:44.720 --> 00:00:46.460
And that's a whole subject
for another playlist.

00:00:46.460 --> 00:00:47.180
And I will do that.

00:00:47.180 --> 00:00:50.670
I will do a whole playlist
on valuation, eventually.

00:00:50.670 --> 00:00:53.080
But, to get there, the first
thing to understand is just

00:00:53.080 --> 00:00:54.870
the capital structure
and how capital

00:00:54.870 --> 00:00:55.920
markets work in general.

00:00:55.920 --> 00:00:57.160
So that's what we're
doing here.

00:00:57.160 --> 00:01:00.020
But anyway, so after you got the
$10 million-- you had $30

00:01:00.020 --> 00:01:02.230
million before, you get $10
million, your post-money is

00:01:02.230 --> 00:01:03.190
$40 million.

00:01:03.190 --> 00:01:05.980
And we had to issue a million
extra shares to do it.

00:01:05.980 --> 00:01:08.760
So before the money we had three
million and now we have

00:01:08.760 --> 00:01:10.180
four million shares.

00:01:10.180 --> 00:01:14.650
So let me draw what our balance
sheet looks like.

00:01:14.650 --> 00:01:20.560
So we had $1 million and then
we raised $10 million more.

00:01:20.560 --> 00:01:26.210
So if we look at the left-hand
side of our balance sheet, we

00:01:26.210 --> 00:01:36.400
have $11 million in cash, and
we have our website and

00:01:36.400 --> 00:01:37.560
intellectual property.

00:01:37.560 --> 00:01:39.750
Maybe we have some
patents now.

00:01:39.750 --> 00:01:43.000
So you can say assets
of the firm.

00:01:43.000 --> 00:01:44.890
I guess you could say non-cash
assets, right?

00:01:44.890 --> 00:01:46.140
That's cash.

00:01:49.120 --> 00:01:52.290
And some of them could be
intangibles, like branding.

00:01:52.290 --> 00:01:55.880
Or maybe we made some small
acquisitions of other people.

00:01:55.880 --> 00:01:58.700
And we'll do more videos on
actually the mechanics of

00:01:58.700 --> 00:01:59.610
acquisitions and all that.

00:01:59.610 --> 00:02:00.290
But you get the idea.

00:02:00.290 --> 00:02:02.570
These are all of the other
assets of the firm, whatever

00:02:02.570 --> 00:02:03.930
they may be.

00:02:03.930 --> 00:02:06.450
And then on the equity side,
because we have no liability,

00:02:06.450 --> 00:02:09.880
so in this case assets will
be equal to equity.

00:02:09.880 --> 00:02:13.390
On the equity side of the
equation we just have four

00:02:13.390 --> 00:02:14.640
million shares.

00:02:16.570 --> 00:02:23.330
1/4 went to the Series B guy,
1/4 went to the Series A guy.

00:02:23.330 --> 00:02:25.720
He had bought a million shares,
I think it was at

00:02:25.720 --> 00:02:27.340
$7.50 a share.

00:02:27.340 --> 00:02:30.120
Then the angel investor had
given us a million shares at,

00:02:30.120 --> 00:02:32.990
and I think it was $5 a share,
that was the angel.

00:02:32.990 --> 00:02:36.100
And then there's me and my
buddies, we split the last,

00:02:36.100 --> 00:02:38.310
that first million
shares five ways.

00:02:38.310 --> 00:02:40.710
And if I wanted to draw my
sliver, I still have my

00:02:40.710 --> 00:02:44.990
200,000 shares.

00:02:44.990 --> 00:02:46.440
And we could keep doing that.

00:02:46.440 --> 00:02:48.800
We could get a Series C
and a Series D that

00:02:48.800 --> 00:02:50.140
will keep us going.

00:02:50.140 --> 00:02:54.820
But let's say that a couple of
other people have decided to

00:02:54.820 --> 00:02:56.550
sell socks on the internet.

00:02:56.550 --> 00:02:58.140
And we realize this
is becoming a

00:02:58.140 --> 00:02:59.480
very competitive space.

00:02:59.480 --> 00:03:02.850
And we really want to just
lay down the gauntlet.

00:03:02.850 --> 00:03:05.370
And make sure that ours is
the dominant player.

00:03:05.370 --> 00:03:08.230
Because we figure that whoever
gets the biggest market share

00:03:08.230 --> 00:03:11.540
fastest, is going to become the
Amazon.com and everyone

00:03:11.540 --> 00:03:14.630
else is going to turn into
these me-too players and

00:03:14.630 --> 00:03:15.560
they're all going to
go out of business.

00:03:15.560 --> 00:03:19.230
So size has benefits
in this situation.

00:03:19.230 --> 00:03:24.580
So we don't want to do these
piddly $10 million offerings

00:03:24.580 --> 00:03:25.790
and $20 million offerings.

00:03:25.790 --> 00:03:26.840
We want to go big time.

00:03:26.840 --> 00:03:27.360
We say, you know what?

00:03:27.360 --> 00:03:30.310
We're going to expand our
company huge, we're going to

00:03:30.310 --> 00:03:31.990
push marketing hard.

00:03:31.990 --> 00:03:34.580
And so we want to raise
a lot of money.

00:03:34.580 --> 00:03:37.390
Let's say-- let me make up a
number-- let's say we want to

00:03:37.390 --> 00:03:42.820
raise, I don't know, we want
to raise $50 million.

00:03:42.820 --> 00:03:45.730
$50 million to invest in
the business and do

00:03:45.730 --> 00:03:47.700
some hard-core marketing.

00:03:47.700 --> 00:03:51.620
And it happens to be at a time--
let's say it's 1999.

00:03:51.620 --> 00:03:53.810
The stock market is
racing ahead.

00:03:53.810 --> 00:03:57.240
People would love to get in
on this kind of stuff.

00:03:57.240 --> 00:04:00.080
So we say hey, let's do an
initial public offering.

00:04:00.080 --> 00:04:01.640
And then that has
two benefits.

00:04:01.640 --> 00:04:05.390
One, we will be able to raise a
lot of money for the firm to

00:04:05.390 --> 00:04:08.990
invest in maybe building
distribution centers or the

00:04:08.990 --> 00:04:10.180
marketing that I talked about.

00:04:10.180 --> 00:04:13.060
And the other side benefit,
which we won't really talk

00:04:13.060 --> 00:04:14.930
about much at the board meeting,
but all of these

00:04:14.930 --> 00:04:18.140
people right now, they're all
holding these shares, right?

00:04:18.140 --> 00:04:19.880
I have these 200,000 shares.

00:04:19.880 --> 00:04:22.019
This angel investor has
this million shares.

00:04:22.019 --> 00:04:24.000
And there's really not a lot
they can do with them, right?

00:04:24.000 --> 00:04:29.740
Maybe the angel investor, maybe
he had an expensive

00:04:29.740 --> 00:04:32.960
divorce settlement and he has to
make some alimony payments

00:04:32.960 --> 00:04:34.350
now, and he doesn't really
have the cash.

00:04:34.350 --> 00:04:36.380
He can't do anything with
these shares, right?

00:04:36.380 --> 00:04:37.560
Same thing with these VCs.

00:04:37.560 --> 00:04:39.740
These VCs are accountable
to their investors.

00:04:39.740 --> 00:04:42.750
And they can say-- like, this VC
can say oh, you know what?

00:04:42.750 --> 00:04:45.310
I bought those shares at $7.50
per share, and then this guy

00:04:45.310 --> 00:04:49.290
came and bought it at $10 per
share, so I already got a 33%

00:04:49.290 --> 00:04:50.150
gain on my investment.

00:04:50.150 --> 00:04:52.630
But the investors aren't that
impressed by that, because

00:04:52.630 --> 00:04:53.910
you're still holding
the shares.

00:04:53.910 --> 00:04:56.120
You can't really say they're
worth $10 until you actually

00:04:56.120 --> 00:04:57.480
turned them into $10.

00:04:57.480 --> 00:04:59.670
Or you turn them into
actual cash.

00:04:59.670 --> 00:05:04.730
So, by doing an initial public
offering, all of a sudden all

00:05:04.730 --> 00:05:06.630
of the players will
have liquidity.

00:05:06.630 --> 00:05:08.310
Which means they can
exchange what they

00:05:08.310 --> 00:05:10.730
have, including myself.

00:05:10.730 --> 00:05:13.520
So they can exchange what they
have for actual cash

00:05:13.520 --> 00:05:15.170
if they need to.

00:05:15.170 --> 00:05:16.150
So how does that work?

00:05:16.150 --> 00:05:19.296
So I would go to an investment
bank, although they've all

00:05:19.296 --> 00:05:21.680
turned into commercial
banks now.

00:05:21.680 --> 00:05:24.080
But we're talking in
a pre-2008 world.

00:05:24.080 --> 00:05:26.540
I would go to an investment
bank and I'd say-- or more

00:05:26.540 --> 00:05:29.370
likely they would come to me
and say hey, you guys could

00:05:29.370 --> 00:05:31.600
raise big money in the public
markets right now.

00:05:31.600 --> 00:05:33.030
Why don't you do an IPO?

00:05:33.030 --> 00:05:35.400
And in a few seconds you'll
realize why they are

00:05:35.400 --> 00:05:36.540
so keen to do it.

00:05:36.540 --> 00:05:37.650
And I say, sure.

00:05:37.650 --> 00:05:38.910
We can raise a lot of money.

00:05:38.910 --> 00:05:42.180
And also we'll be in the press,
so that'll be free

00:05:42.180 --> 00:05:44.450
marketing in and of itself.

00:05:44.450 --> 00:05:45.900
So I say sure, do
all of the work.

00:05:45.900 --> 00:05:48.240
So what they'll do, is there
will be a lead underwriter.

00:05:48.240 --> 00:05:51.890
Let me write that down,
lead underwriter.

00:05:51.890 --> 00:05:55.060
And that's essentially the
person who does all of the

00:05:55.060 --> 00:05:56.200
legal work.

00:05:56.200 --> 00:06:00.190
They're going to file documents
with the SEC that

00:06:00.190 --> 00:06:01.370
describe the company.

00:06:01.370 --> 00:06:03.540
And they're going to
make models and

00:06:03.540 --> 00:06:05.350
projections and all that.

00:06:05.350 --> 00:06:10.000
And then they're also going to
have people riding along with

00:06:10.000 --> 00:06:11.260
them, other banks.

00:06:11.260 --> 00:06:13.310
And they're going to
form a syndicate.

00:06:13.310 --> 00:06:16.670
A syndicate is just a group of
banks that work together to

00:06:16.670 --> 00:06:18.860
kind of handle a larger
transaction than any one of

00:06:18.860 --> 00:06:20.970
them would be willing to
handle by themselves.

00:06:20.970 --> 00:06:23.230
And it kind of spreads the
risk amongst them.

00:06:23.230 --> 00:06:26.080
So the bottom line is what the
banks do, other than doing all

00:06:26.080 --> 00:06:27.430
the legal work.

00:06:27.430 --> 00:06:30.030
They'll value the company and
then they'll go to all of

00:06:30.030 --> 00:06:31.280
their clients.

00:06:31.280 --> 00:06:33.670
So all of the people who trade
through that bank, all of the

00:06:33.670 --> 00:06:37.160
institutional clients, all of
the hedge funds that have

00:06:37.160 --> 00:06:39.460
their prime brokerage accounts
at those banks.

00:06:39.460 --> 00:06:41.890
And just so you know, a prime
brokerage account is just like

00:06:41.890 --> 00:06:43.510
a brokerage account, but
it's a brokerage

00:06:43.510 --> 00:06:44.510
account for big guys.

00:06:44.510 --> 00:06:47.740
It's a brokerage account for
people managing $100 million

00:06:47.740 --> 00:06:50.110
and not their E-Trade account.

00:06:50.110 --> 00:06:51.570
That's all a prime
brokerage is.

00:06:51.570 --> 00:06:55.540
And they'll go to these guys and
say hey, we have this hot

00:06:55.540 --> 00:06:57.860
IPO issue, socks.com.

00:06:57.860 --> 00:07:00.380
And we've done our models,
and we think this is

00:07:00.380 --> 00:07:02.320
a $5 billion market.

00:07:02.320 --> 00:07:06.680
We think that this company is
worth-- we think this company

00:07:06.680 --> 00:07:10.350
is worth at least $100 million
in its current form.

00:07:10.350 --> 00:07:12.560
So once again realize, I mean,
even though we're kind of

00:07:12.560 --> 00:07:14.700
doing something a little
different now, all of the

00:07:14.700 --> 00:07:16.130
other things were essentially--
you could call

00:07:16.130 --> 00:07:17.270
them private offerings.

00:07:17.270 --> 00:07:19.950
Or private placements
in some way.

00:07:19.950 --> 00:07:22.130
Essentially these were
private equity sales.

00:07:22.130 --> 00:07:24.710
And I know that word is used
a lot, private equity.

00:07:24.710 --> 00:07:26.570
And that's what venture capital
essentially is.

00:07:26.570 --> 00:07:28.520
Although normally when people
talk about private equity,

00:07:28.520 --> 00:07:29.870
they're not talking about
venture capital.

00:07:29.870 --> 00:07:31.510
And I'll do a whole other
video on that.

00:07:31.510 --> 00:07:33.210
But venture capital
fundamentally is private

00:07:33.210 --> 00:07:34.030
equity, right?

00:07:34.030 --> 00:07:36.670
Because these shares that you're
selling, they're not

00:07:36.670 --> 00:07:39.280
traded on a public exchange
like the New York Stock

00:07:39.280 --> 00:07:42.240
Exchange or the NASDAQ, or
something like that.

00:07:42.240 --> 00:07:44.010
So anyway, back to what
we were doing.

00:07:44.010 --> 00:07:47.466
These guys, these banks, they
go to their clients and say

00:07:47.466 --> 00:07:50.310
hey, I have this
hot new issue.

00:07:50.310 --> 00:07:52.260
And they'll kind of
gauge sentiment.

00:07:52.260 --> 00:07:54.030
They'll talk to clients, they'll
talk to each other,

00:07:54.030 --> 00:07:55.630
and they say, oh you know
what the demand is.

00:07:55.630 --> 00:07:58.080
And they'll essentially come up
with some price, which is

00:07:58.080 --> 00:08:03.860
essentially as a high a price
as-- they want do a high price

00:08:03.860 --> 00:08:05.290
because obviously as a company,
I want to sell the

00:08:05.290 --> 00:08:06.510
stock for as much as possible.

00:08:06.510 --> 00:08:08.550
But they don't want to do it
so high that the stock

00:08:08.550 --> 00:08:09.250
doesn't trade up.

00:08:09.250 --> 00:08:11.570
Most banks, you want your
IPO to look like this.

00:08:11.570 --> 00:08:13.690
This is the first
day of trading,

00:08:13.690 --> 00:08:17.030
this is your IPO price.

00:08:17.030 --> 00:08:20.970
They want it to look like that,
so that in the future

00:08:20.970 --> 00:08:22.960
when there's an IPO, people
get excited to get in it.

00:08:22.960 --> 00:08:27.000
If this IPO-- if the stock just
did this, if it started

00:08:27.000 --> 00:08:28.560
collapsing, one, people
will lose

00:08:28.560 --> 00:08:30.070
interest in IPOs in general.

00:08:30.070 --> 00:08:31.800
And then people will get
suspicious about this company.

00:08:31.800 --> 00:08:33.159
And I'll do a whole
video on that.

00:08:33.159 --> 00:08:35.049
So, how do the mechanics work?

00:08:35.049 --> 00:08:40.580
Well, they'll say, hey, you want
to raise the $50 million,

00:08:40.580 --> 00:08:41.750
well you could do it
a couple ways.

00:08:41.750 --> 00:08:48.800
We say hey, we're willing to
issue another-- let me think

00:08:48.800 --> 00:08:52.490
of the best way to explain--
we're willing to issue another

00:08:52.490 --> 00:08:54.740
ten million shares, right?

00:08:54.740 --> 00:08:57.040
And I'm not drawing
it proportionally.

00:08:57.040 --> 00:08:59.030
Let's say we're willing to
issue another ten million

00:08:59.030 --> 00:09:01.100
shares, and this should be a
lot higher, because this is

00:09:01.100 --> 00:09:02.560
four million right here.

00:09:02.560 --> 00:09:04.850
We're willing to issue a another
ten million shares,

00:09:04.850 --> 00:09:06.760
how much money can
we get for it?

00:09:06.760 --> 00:09:09.940
And let's see, these bankers
talking to essentially the

00:09:09.940 --> 00:09:11.030
market, and talking
to each other.

00:09:11.030 --> 00:09:14.040
They say hey, we think we can
justify these guys, and we're

00:09:14.040 --> 00:09:16.080
going to do it for a little
bit lower than they're

00:09:16.080 --> 00:09:16.710
actually worth.

00:09:16.710 --> 00:09:19.980
But we think the market will buy
the fact that these guys

00:09:19.980 --> 00:09:26.790
are worth, I don't know, let's
say they're worth $80 million

00:09:26.790 --> 00:09:29.180
in their current incarnation,
right?

00:09:29.180 --> 00:09:31.840
Which essentially says, before
we raise the money, we have

00:09:31.840 --> 00:09:33.800
$80 million, we have four
million shares.

00:09:33.800 --> 00:09:38.590
So they're saying $20 a share.

00:09:38.590 --> 00:09:43.650
So if we go and issue another
ten million shares at $20 a

00:09:43.650 --> 00:09:50.220
share, we'll actually
raise $200 million.

00:09:50.220 --> 00:09:52.830
Actually, for the sake of-- so I
don't have to edit my math--

00:09:52.830 --> 00:09:55.650
let's say that's how much we
wanted to raise, $200 million.

00:09:55.650 --> 00:09:57.990
So essentially what these guys
will do, our board of

00:09:57.990 --> 00:10:01.530
directors will issue
these new shares.

00:10:01.530 --> 00:10:05.160
And then this syndicate of
banks, led by the lead

00:10:05.160 --> 00:10:07.870
underwriter will then sell it
to their brokerage clients.

00:10:07.870 --> 00:10:11.390
To mainly institutional
investors, but it might be

00:10:11.390 --> 00:10:13.400
some favored rich guys.

00:10:13.400 --> 00:10:16.310
If it's not that favored of an
IPO, maybe you might get a

00:10:16.310 --> 00:10:17.880
call as well.

00:10:17.880 --> 00:10:19.100
And they'll sell it
to all of them.

00:10:19.100 --> 00:10:20.360
And you say, why are
they doing that?

00:10:20.360 --> 00:10:23.980
Why are they doing all of this
work for the company, helping

00:10:23.980 --> 00:10:26.330
them raise $200 million?

00:10:26.330 --> 00:10:29.170
And they're going to the pain
of the legal work, and they

00:10:29.170 --> 00:10:31.910
had to put a team of maybe
ten guys on this.

00:10:31.910 --> 00:10:34.120
And they had to make models,
and it probably took them

00:10:34.120 --> 00:10:35.930
maybe two or three
months to do it.

00:10:35.930 --> 00:10:37.140
That's a lot of work,
what do they get in

00:10:37.140 --> 00:10:38.880
exchange for all of this?

00:10:38.880 --> 00:10:41.080
Well they actually
get a commission.

00:10:41.080 --> 00:10:45.450
And that commission, at least
historically, has been 7% of

00:10:45.450 --> 00:10:47.060
the offering.

00:10:47.060 --> 00:10:48.640
7% of the offering.

00:10:48.640 --> 00:10:52.090
And now you get a sense of why,
in a good market, when

00:10:52.090 --> 00:10:55.070
you can do these things, why it
has, in history, paid to be

00:10:55.070 --> 00:10:56.410
an investment banker.

00:10:56.410 --> 00:11:00.610
Because 7% of $200 million--
and frankly it's not a lot

00:11:00.610 --> 00:11:04.120
more work to do a $200 million
offering than it is to do a

00:11:04.120 --> 00:11:05.890
$20 million offering,
it's probably

00:11:05.890 --> 00:11:07.220
about the same amount.

00:11:07.220 --> 00:11:11.030
But 7% of $200 million
is $14 million.

00:11:11.030 --> 00:11:14.090
So actually these guys aren't
going to see $200 million.

00:11:14.090 --> 00:11:17.010
They're going to see 200
minus 14 million.

00:11:17.010 --> 00:11:20.690
So they're going to
see $186 million.

00:11:20.690 --> 00:11:26.570
And then these bankers are going
to split $14 million.

00:11:26.570 --> 00:11:29.200
And that probably is about
two months of work

00:11:29.200 --> 00:11:32.240
for maybe ten guys.

00:11:32.240 --> 00:11:34.980
So you can imagine-- and of
course they have the whole

00:11:34.980 --> 00:11:37.590
bank that has the support, and
they have all these-- not

00:11:37.590 --> 00:11:38.440
anyone could do this.

00:11:38.440 --> 00:11:41.910
You have to have what they
call retail distribution.

00:11:41.910 --> 00:11:45.590
You have to have kind of a
channel that you can plug

00:11:45.590 --> 00:11:47.630
these shares into to
actually get rid of

00:11:47.630 --> 00:11:48.860
the ten million shares.

00:11:48.860 --> 00:11:50.480
You see, it's a fairly
profitable business.

00:11:50.480 --> 00:11:53.220
So that's what an initial
public offering is.

00:11:53.220 --> 00:11:56.530
For the first time, a company
is selling shares to the

00:11:56.530 --> 00:11:59.290
public, that is not just to
these private investors.

00:11:59.290 --> 00:12:01.090
And usually on an initial public
offering, although it's

00:12:01.090 --> 00:12:03.770
not always the case, these
guys aren't selling their

00:12:03.770 --> 00:12:05.600
shares as much as they
would like to.

00:12:05.600 --> 00:12:07.690
They're usually locked in for a
certain period, just because

00:12:07.690 --> 00:12:10.770
it looks bad if, especially the
insiders-- those were the

00:12:10.770 --> 00:12:13.450
founders of the company--
actually sell their shares.

00:12:13.450 --> 00:12:17.750
But six months later, then I
can go and sell my shares.

00:12:17.750 --> 00:12:20.130
Maybe if I do it on a small
amount, I can go and sell it

00:12:20.130 --> 00:12:20.890
in the NASDAQ.

00:12:20.890 --> 00:12:23.590
And I have a publicly traded
price, so on any given day, I

00:12:23.590 --> 00:12:25.650
know exactly what my
shares are worth.

00:12:25.650 --> 00:12:27.030
And this is an important
thing to realize.

00:12:27.030 --> 00:12:29.490
Because a lot of times when
people buy a stock they're

00:12:29.490 --> 00:12:32.110
like, oh, I've invested
in that company.

00:12:32.110 --> 00:12:33.280
Well, kind of.

00:12:33.280 --> 00:12:36.000
When you normally buy a stock
on an exchange, as the New

00:12:36.000 --> 00:12:38.470
York Stock Exchange, you're
just buying the stock from

00:12:38.470 --> 00:12:39.240
somebody else.

00:12:39.240 --> 00:12:40.940
You're not buying the stock
from that company.

00:12:40.940 --> 00:12:44.070
So when you pay $100 for an IBM
stock-- I've run out of

00:12:44.070 --> 00:12:46.490
space, that's why I'm just
talking and not drawing, let

00:12:46.490 --> 00:12:48.110
me erase this.

00:12:48.110 --> 00:12:49.500
I've run out of time, too.

00:12:49.500 --> 00:12:51.910
But I think this is an
important point.

00:12:51.910 --> 00:12:56.050
When you buy stock from someone
else-- so if I give my

00:12:56.050 --> 00:13:03.240
$100 and I get a stock
certificate of IBM, most of

00:13:03.240 --> 00:13:07.700
the time, if I were to do this
today, I'm just-- this is me,

00:13:07.700 --> 00:13:11.220
with a mustache-- I'm just
getting it from some other

00:13:11.220 --> 00:13:13.680
dude, right?

00:13:13.680 --> 00:13:16.970
Well maybe he's happy
because he got $100.

00:13:16.970 --> 00:13:19.980
He's got a top-hat.

00:13:19.980 --> 00:13:21.850
And this is what happens in the
stock market every day.

00:13:21.850 --> 00:13:24.660
So when I buy that, I'm not
really investing in IBM.

00:13:24.660 --> 00:13:27.290
I'm just buying the money--
I'm just buying that share

00:13:27.290 --> 00:13:27.790
from another guy.

00:13:27.790 --> 00:13:29.960
We're just exchanging shares.

00:13:29.960 --> 00:13:36.520
In an IPO, if I'm one of the IPO
investors-- this is me--

00:13:36.520 --> 00:13:40.090
my $100 in this situation--
let's see we're

00:13:40.090 --> 00:13:42.090
dealing with socks.com.

00:13:44.860 --> 00:13:47.490
Maybe that's it's ticker
symbol, SOCK.

00:13:47.490 --> 00:13:50.370
This time it's actually
going to the company.

00:13:50.370 --> 00:13:52.970
It's actually going to the-- or
the website, in this case.

00:13:52.970 --> 00:13:56.670
Of course 7% is being
re-directed to

00:13:56.670 --> 00:13:58.330
the investment bankers.

00:13:58.330 --> 00:14:00.600
So when you buying from and IPO
you really are, to some

00:14:00.600 --> 00:14:01.710
degree, making an investment.

00:14:01.710 --> 00:14:03.160
Just like if you were doing
a venture capital.

00:14:03.160 --> 00:14:04.950
You really are making an
investment in a company.

00:14:04.950 --> 00:14:08.960
Your money will then be used by
the company to hire people

00:14:08.960 --> 00:14:10.250
and build factories
and make out a

00:14:10.250 --> 00:14:11.590
website and do marketing.

00:14:11.590 --> 00:14:13.610
In this case, you're essentially
just trading

00:14:13.610 --> 00:14:16.560
shares in a secondary market.

00:14:16.560 --> 00:14:19.880
Secondary market just means
that it's not going to the

00:14:19.880 --> 00:14:20.600
actual company.

00:14:20.600 --> 00:14:23.940
It's just going to another
shareholder who bought it

00:14:23.940 --> 00:14:25.070
before you.

00:14:25.070 --> 00:14:27.460
Anyway, I've really gone
over my time limit.

00:14:27.460 --> 00:14:28.710
So I'll see you in
the next video.