What Is a Secondary Offering?
The term secondary offering refers to the sale of shares owned by an investor to the general public on the secondary market. These are shares that were already sold by the company in an initial public offering (IPO). The proceeds from a secondary offering are paid to the stockholders who sell their shares rather than to the company.
Some companies may offer follow-on offerings, which may also be called secondary offerings. These offerings can take on two different forms: non-dilutive and dilutive secondary offerings.
- A secondary offering occurs when an investor sells their shares to the public on the secondary market after an IPO.
- Proceeds from an investor's secondary offering go directly into an investor's pockets rather than to the company.
- Corporations can also sell shares through secondary offerings, which are also referred to as follow-on offerings, to raise capital or for other reasons.
- Follow-on offerings can be either dilutive, which results in an increase in shares, or non-dilutive, where new shares are not created.
How Secondary Offerings Work
Private companies that want to raise capital may choose to sell shares to investors through an initial public offering. As the name implies, an IPO is the first time a company offers shares to the public. These are new securities that are sold to investors on the primary market. The corporation can use the proceeds to fund its day-to-day operations, make acquisitions, or for other purposes.
Once the IPO is complete, investors can make secondary offerings to the public on the secondary market or the stock market. As mentioned above, securities that are sold in a secondary offering are held by investors and sold to one or more other investors through a stock exchange. As such, the proceeds from a secondary offering go directly to the seller—not the company whose shares change hands.
In some cases, a company may perform a secondary offering. This type of offering is called a follow-on offering. This need may arise to raise capital to finance its debt, to make acquisitions, or to fund its research and development (R&D) pipeline.
In other cases, investors may inform the company of their wish to cash out of their holdings while other companies may offer follow-on offerings to refinance debt when interest rates are low.
As an investor, make sure you understand the reasons why a company has a follow-on offering before you put your money into it.
Types of Secondary Offerings
Secondary offerings come in two different forms. The first is a non-dilutive offering while the other is referred to as a dilutive secondary offering. We've outlined the differences between each below.
Non-Dilutive Secondary Offerings
A non-dilutive secondary offering does not dilute shares held by existing shareholders because no new shares are created. The issuing company might not benefit at all because the shares are offered for sale by private shareholders, such as directors or other insiders, such as company insiders or venture capitalists, who want to diversify their holdings.
The increase in available shares allows more institutions to take non-trivial positions in the issuing company, which may benefit the trading liquidity of the issuing company's shares. This kind of secondary offering is common in the years following an IPO, after the termination of the lock-up period.
Dilutive Secondary Offerings
A dilutive secondary offering is also known as a subsequent offering, or follow-on public offering (FPO). This offering occurs when a company itself creates and places new shares onto the market, thus diluting existing shares. This offering happens when a company's board of directors agrees to increase the share float in order to sell more equity.
When the number of outstanding shares increases, this causes the dilution of earnings per share (EPS). The resulting influx of cash helps the company achieve the longer-term goals of a company or it can be used to pay off debt or finance expansion. This may not be positive for the shorter-term horizons of certain shareholders.
Secondary offerings are normally marketed within a few days rather than a few weeks, which is common for IPOs.
Effects of Secondary Offerings
There are instances when secondary offerings can have a big impact on investor sentiment, not to mention a company's share prices. For instance, investors may anticipate bad news if a large shareholder (especially if a company principal) unloads a lot of stock. Share prices may also be affected, taking a dive or increasing based on the news. Capri Holdings (CPRI) shares dropped about 10% after the designer announced a secondary offering of three million shares in 2013.
The same can happen with follow-on offerings. A dilutive secondary offering usually results in a drop in share prices. But markets can have unexpected reactions to them. For example, the stock price of CRISPR Therapeutics saw a one-day increase of 17% in January 2018 after the company announced a secondary offering. Although the exact reason for the rapid increase wasn't apparent, analysts suspected that investors anticipated future potential, perhaps related to the company's plans to fund further clinical development.
Real-World Examples of Secondary Offerings
In 2013, Mark Zuckerberg announced he was selling 41 million shares he held personally in a secondary offering to the public. The Facebook executive raised about $2.3 billion, saying he was using part of the proceeds to pay a tax bill.
Rocket Fuel announced in 2013 that it would sell an additional five million shares in a follow-on offering. The move was prompted by a strong 2013 fourth quarter and a desire to capitalize on its high share price. The company planned to sell two million shares, with existing shareholders selling approximately three million. Underwriters were able to purchase 750,000 shares in the offering.
Another follow-on offering occurred when Alphabet's Google (GOOG) conducted one in 2005. The follow-on offering conducted in 2005 raised $4 billion at $295 per share. Compare that to the $2 billion the company raised during its IPO. Shares sold at $85 per share in its IPO, which was the lower end of its estimates.