g. Would companies going public use a negotiated deal or a competitive bid?
Randy’s, a family-owned restaurant chain operating in Alabama, has grown to the point that expansion throughout the entire Southeast is feasible. The proposed expansion would require the firm to raise about $18.3 million in new capital. Because Randy’s currently has a debt ratio of 50% and because family members already have all their personal wealth invested in the company, the family would like to sell common stock to the public to raise the $18.3 million. However, the family wants to retain voting control. You have been asked to brief family members on the issues involved by answering the following questions:
The process of making bids in the competitive bid is a costly matter which only a few large and well established firms can afford, so the startups, who are only the emerging and growing firms do not have enough funds to plan for a competitive bid should adopt negotiated deals while going public.
The process of competitive bidding is riskier from the view of investment banks as if the investors have not applied for the bid, the cost incurred by the banks for creating bids will get wasted. So, the investment banks might not incur these costs on behalf of the company unless they are sure of earning higher returns through application of securities by investors. They often prefer negotiated deals over competitive bidding while going public.
Emerging or startup companies should choose negotiated deals as a competitive bid is an expensive affair which they might not afford and includes high risk as compared to the negotiated deals.
However, large and highly reputed firms can adopt competitive bids because of their large funds, high liquidity and good image before the investors and the market.