Flotacion

What Is Flotacion?

Flotacion, or flotation, refers to the process by which a company issues new securities, such as shares of equity or debt, to the public to raise capital. This fundamental process within corporate finance allows private companies to transition into public entities or for already public companies to raise additional funds. The goal of a flotation is to generate capital for various corporate purposes, including expansion, debt repayment, or funding new projects. This mechanism is central to the functioning of capital markets.

History and Origin

The concept of companies raising capital from the public has roots extending back centuries, with early forms of joint-stock companies emerging in the 17th century. However, modern securities flotation practices, particularly those involving public offerings, solidified with the advent of formal stock exchanges and sophisticated financial intermediaries. In the United States, significant regulatory frameworks began to take shape after the 1929 stock market crash and the ensuing Great Depression. The Securities Act of 1933, often called the "truth in securities" law, was enacted to ensure that investors receive comprehensive financial and other vital information concerning securities offered for public sale, and to prohibit fraudulent activities in the sale of securities.¹¹ This foundational legislation, along with the Securities Exchange Act of 1934 which established the U.S. Securities and Exchange Commission (SEC), created the regulatory environment for how companies undertake a flotation and interact with the public markets.¹⁰

Key Takeaways

• Flotacion is the process of a company issuing new securities to the public to raise capital.
• It is a core function in corporate finance and vital for companies seeking to grow or restructure.
• The process involves significant legal and financial preparation, often led by investment banks.
• Successful flotation can provide increased liquidity and public visibility for a company's shares.
• Costs associated with flotation include direct expenses like underwriting fees and indirect costs such as market underpricing.

Formula and Calculation

While there isn't a single universal formula for "flotacion" itself, as it's a process, the direct costs associated with an initial public offering (IPO) — a common type of flotation — can be quantified. These costs are typically expressed as a percentage of the gross proceeds from the offering.

The direct costs of an IPO generally include:

• Underwriting Fees (Gross Spread): This is the fee paid to the investment bank or syndicate for managing the offering. It is typically the largest component of direct costs.
• Legal Fees: Expenses for legal counsel involved in drafting the prospectus and ensuring regulatory compliance.
• Accounting and Audit Fees: Costs for financial statement preparation and auditing.
• Printing and Marketing Costs: Expenses for producing the prospectus and promotional materials.
• Registration and Exchange Listing Fees: Fees paid to regulatory bodies like the SEC and the stock exchange.

The total direct cost (TDC) of a flotation can be calculated as:

These costs are often analyzed as a percentage of the total capital raised. For instance, underwriting fees in the U.S. typically range from 4% to 7% of the gross IPO proceeds. In ⁹some markets, such as Poland, research has shown that the total cost of an IPO can average around 12.66%, with direct costs representing about 5.78% of the offer's value.

##⁸ Interpreting the Flotacion

Interpreting a flotation involves evaluating the terms and outcomes of the securities issuance. For the issuing company, a successful flotation means efficiently raising the desired capital at a favorable share price. Factors such as the degree of market interest, the allocation of shares, and the immediate aftermarket performance are key indicators. Significant "underpricing," where the initial trading price of shares is substantially higher than the offering price, indicates that the company left money "on the table," effectively raising less capital than it could have.

Fo⁷r investors, understanding a flotation means assessing the company's valuation, its business model, and the terms of the offering detailed in the prospectus. Investors look for fair pricing, potential for capital appreciation, and sufficient liquidity in the secondary market. The success of a flotation is also influenced by broader market conditions and market volatility.

Hypothetical Example

Imagine "GreenTech Innovations Inc.," a private company specializing in renewable energy solutions, decides to undergo a flotation to raise $100 million for expanding its research and development and building new production facilities. GreenTech hires an investment bank to manage the process.

The investment bank advises GreenTech to offer 10 million shares at an initial public offering (IPO) price of $10 per share. This would theoretically raise $100 million. As part of the process, the investment bank forms a syndicate of other financial institutions to help distribute the shares. They conduct extensive due diligence and prepare a comprehensive prospectus detailing GreenTech's financials, business operations, and risks.

On the day of the IPO, strong investor demand pushes the share price to $12 per share in the first hours of trading, indicating a 20% "pop" above the offering price. While positive for initial investors, this underpricing suggests that GreenTech could have set a higher initial price, potentially leaving $20 million ($2 per share x 10 million shares) on the table. Despite this, the flotation is considered successful as GreenTech raised its target capital and its shares began trading actively on the exchange.

Practical Applications

Flotacion is a critical mechanism with broad applications across financial markets:

• Initial Public Offerings (IPOs): The most common form of flotation, an IPO occurs when a private company offers its shares to the public for the first time. This allows the company to access a much larger pool of capital and provides liquidity for existing shareholders.
• ⁶ Secondary Offerings: Public companies can undertake subsequent flotations, known as secondary offerings, to raise additional capital after their IPO. These can be follow-on public offerings (FPOs) or rights issues.
• Direct Listings: A more recent development in flotation, direct listings allow companies to list their existing shares on an exchange without issuing new shares or raising capital directly from the public, as seen with Spotify's direct listing in 2018. Thi⁵s method can reduce some of the costs associated with traditional IPOs.
• Privatizations: Governments can use flotation to sell off state-owned enterprises to private investors, contributing to public revenue and potentially increasing the efficiency of the formerly state-run entities.

Limitations and Criticisms

While flotation offers significant benefits, it also comes with limitations and faces criticisms. One major concern for companies is the substantial cost involved. Direct costs, such as underwriting fees, legal, accounting, and printing fees, can be considerable. Bey⁴ond direct expenses, indirect costs like underpricing, where the initial offer price is set below the price the market is willing to pay, represent foregone capital for the issuing company.

An³other limitation is the extensive time and management resources required for the preparation and execution of a flotation, which can divert focus from core business operations. The process also exposes the company to market volatility, meaning adverse market conditions could force delays or even cancellations of the offering.

Furthermore, direct listings, while reducing some underwriting costs, introduce different challenges. The lack of a traditional underwriting syndicate means there is no price stabilization mechanism or firm commitment from underwriters to buy shares. This can lead to increased share price volatility post-listing and may expose financial advisors to greater liability. Cri²tics also point to the potential for information asymmetry during the flotation process, where investors may not have access to all material information, leading to mispricing or adverse outcomes.

##¹ Flotacion vs. Underwriting

While closely related, flotation and underwriting refer to distinct aspects of the securities issuance process.

Flotacion is the broader term for the overall act of a company bringing new securities to the public market to raise capital. It encompasses the entire journey from a private company deciding to go public (or a public company raising more funds) to its shares trading on an exchange. This includes the strategic decision-making, regulatory filings, marketing to investors, and the actual trading of the securities.

Underwriting, on the other hand, is a specific service provided by an investment bank (or a syndicate of banks) that facilitates the flotation. The underwriter acts as an intermediary between the issuing company and investors, taking on the financial risk of buying the securities from the issuer and reselling them to the public. Key functions of underwriting include:

• Advising the issuer: Guiding the company on pricing, timing, and structure of the offering.
• Due diligence: Conducting a thorough investigation of the company to ensure all disclosures are accurate.
• Marketing the securities: Gauging investor interest and building a "book" of orders.
• Purchasing and reselling: In a "firm commitment" underwriting, the underwriter buys all the shares from the issuer and then sells them to investors, bearing the risk of unsold shares.

In essence, underwriting is a critical component within the broader process of flotation, typically managed by an investment bank.

FAQs

What are the main types of flotation?
The main types of flotation include Initial Public Offerings (IPOs) for companies going public for the first time, secondary offerings for existing public companies raising additional capital, and direct listings where existing shares are listed without a new issuance.

Why do companies undertake a flotation?
Companies undertake a flotation primarily to raise capital for growth, expansion, debt reduction, or other corporate needs. It also provides liquidity for existing shareholders and can enhance a company's public profile and credibility.

What is a prospectus in the context of flotation?
A prospectus is a legal document that provides detailed information about a company and its securities being offered during a flotation. It includes financial statements, business operations, risk factors, and the terms of the offering, allowing potential investors to make informed decisions.

Are there risks for investors in a flotation?
Yes, investors face risks such as potential overvaluation, market volatility affecting share price post-flotation, and the inherent business risks of the issuing company. Comprehensive due diligence on the prospectus is essential.