A company life map - the rise and fall of a hot stock

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5. AIM flotation by tender offer

A tender offer is like an offer for sale in that new shares are offered to the public at large, but there is a crucial difference: the company does not set a price for the new shares. It invites investors to "bid" for them, usually putting a reserve (i.e. minimum) price on them.

Let's suppose that Country Bumpkin's flotation was done by way of tender and that it put a reserve price of 75p on its 2.5 million new shares. What is the sequence of events?

The company sends out a prospectus exactly as before, but the application form makes it clear that this is a tender offer.

Investors have to decide for themselves how much they are willing to pay for the shares, taking into account the information in the prospectus, press comment, and their own views of the industry. They know what the minimum price is, and that there's no point bidding below it, but they don't know how high they have to bid to get an allocation of shares.

When all offers are in, the institutions handling the issue set a "striking price" which is usually but not always the highest price at which all the shares being issued can be sold, bearing in mind the bids put in by investors.

Suppose CB offered 2.5 million shares at tenders of 75p or above, and received the following applications:

No. shares applied for	Price	Cumulative total of shares that can be sold at each price
2,000,000	105p	2,000,000
300,000	95p	2,300,000
200,000	85p	2,500,000
500,000	80p	3,000,000

The right hand column shows that at a price of 85p all 2.5 million shares can be sold, so this would be the highest possible striking price. If the company chooses 85p, all applicants who bid at that price or above would get shares at 85p while those who bid below 85p would get no shares.

The risk for investors is that if they bid very high they would almost certainly get an allocation of shares, but possibly at a striking price higher than the shares are really worth. If, they bid low they risk being below the striking price and getting no shares.

The company does not have to sell at the highest striking price though. It can choose a lower striking price to give the shares a boost when they first start trading. In the example above, they could choose a price of 80p instead of 85p. As there were applications for 3 million shares at 80p, but only 2.5 million shares were being offered, the issue would then be 'oversubscribed'.

When an offer is oversubscribed, the company has to decide which of the applicants get shares and which do not in a process known as "allocation" or "allotment". It could:

ballot the applicants (i.e. put their names in a hat), and allocate a standard number of shares shares to the ones picked out

scale back large applications (e.g. those asking for 50,000 shares) to, say 10% of what they asked for

combine a scaling back with a ballot

The allocation policy must not be manifestly unfair or arbitrary, but the company is allowed to devise a method which results in the spread of shareholders and size of shareholdings that it wants.

Why would a company engage in this game of nerves with investors? Answer: they seldom do. Tender offers are rare for ordinary companies.

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