Chapter 22
Investment Banks, Security Brokers and Dealers,
and Venture Capital Firms
Investment Banks
Background
Underwriting Stocks and Bonds
Equity Sales
Mergers and Acquisitions
Securities Brokers and Dealers
Brokerage Services
Securities Dealers
Mini-Case Box: Example of Using Limit-Order Book
Regulation of Securities Firms
Relationship Between Securities Firms and Commercial Banks
Private Equity Investment
Venture Capital Firms
Private Equity Buyouts
Advantages to Private Equity Buyouts
E-Finance Box: Venture Capitalists Lose Focus with Internet Companies
Life Cycle of the Private Equity Buyout
◼ Overview and Teaching Tips
This chapter covers securities firms, which are firms that buy and sell bonds and stock. This chapter also
covers organized exchanges, securities brokers, and dealers. The Securities and Exchange Commission
regulates the information that prospective investors receive. When investment bankers underwrite a stock or
bond issue, the firm purchases the whole issue and resells it in the market. Giving advice, filing documents,
and marketing issues are some of the services provided in underwriting. Investment bankers also deal with
mergers and acquisitions and private placements, which is an alternative method of selling securities.
Securities brokers and dealers trade within the secondary market and link buyers to sellers. Dealers actually
buy and sell the stocks or bonds, while brokers do not take ownership of them. Brokers offer several services
to their customers, including securities orders, margin credit, and other services traditionally offered by
commercial banks like ATMs and debit cards. There are two different types of securities orders, a market
order or a limit order. Both are concerned with the price at which one will buy or sell a security. Full-service
brokers provide advice on investments and do research for their customers. There is a large fee for this type
of service. On the other hand, discount brokers simply place orders when requested. Firms are prohibited
from trading on insider information because it is against SEC regulations.
Chapter 22: Investment Banks, Security Brokers and Dealers, and Venture Capital Firms 129
This chapter concludes by discussing the role of venture capital firms in funding start-up firms. The use of
venture capital financing peaked in the early 2000s. The chapter traces the usual progression of a venture
capital deal.
◼ Answers to End-of-Chapter Questions
1. Regulators felt that investment banking was riskier and had led to bank failures during the Great
Depression.
3. When an offering is underwritten, the investment banker purchases the issue at a pre-specified price.
In a best-efforts issue, the investment bankers does not take ownership.
5. No, an SEC review simply determines if the proper documents have been filed.
7. It is better to be fully subscribed because oversubscription indicates that the investment bankers priced
the security too low.
10. They make a market by standing ready to buy or sell securities.
12. Yes, selling the security short.
14. First, the company is not subject to Sarbanes-Oxley regulation. Second, CEOs may feel they have
130 Mishkin/Eakins • Financial Markets and Institutions, Eighth Edition
◼ Quantitative Problems
Amazon.com
1
issued an initial public offering in May of 1997. Prior to its IPO, the following information
on shares outstanding was listed in the final prospectus:
Name and Address
Number Of Shares
Beneficially Owned
Percentage of Shares
Outstanding
Prior to Offering
After Offering
Jeffrey P. Bezos
c/o Amazon.com, Inc.
1516 Second Avenue, 4th Floor
Seattle, WA 98101
9,885,000
47.5%
41.4%
L. John Doerr
Kleiner Perkins Caufield & Byers
4 Embarcadero Center, Suite 3520
San Francisco, CA 94111
3,401,376
16.4
14.3
Tom A. Alberg
195,000
—
—
Scott D. Cook
75,000
—
—
Patricia Q. Stonesifer
75,000
—
—
All directors and executive officers as
a group (14 persons)
15,688,925
72.5
63.5
Total shares outstanding
20,858,702
100.0
—
In the IPO, the firm issued 3,000,000 news shares. The initial price was $18.00 per share with investment
bankers retaining $1.26 as fees. The final first-day closing price was $23.50.
1. What were the total proceeds from this offering? What part was retained by Amazon? What part by
the investment bankers? What percent of the offering is this?
2. Mr. Doerr of Kleiner Perkins Caufield & Byers owned a significant number of shares. What was the
market value of these shares at the end of the first day of trading?
3. What was the market value of Amazon.com following its first day as a publicly-held company?
4. Refer back to the IPO of Ebay presented in the problems for Chapter 11. What were the fees for Ebay
as a percent of funds raised? Does a pattern emerge?
132 Mishkin/Eakins • Financial Markets and Institutions, Eighth Edition
How, if at all, are these orders filled? What does the limit order book look like after these orders?
Solution: a. is fulfilled with 200 shares @ 25.23 and 100 shares @ 25.20
After these, the book looks like:
Unfilled Limit Orders
Buy
Orders
Sell
Orders
25.12
100
25.36
200
25.20
400
25.38
200
25.30
500
25.41
200