12.3 Dealer’s Advisory Relationship With Corporations

Overview the Dealer’s Advisory Relationship with Corporations

When a corporation decides to undertake financing, it secures the services of a dealer. Selecting a lead dealer involves various considerations about the dealer’s reputation for providing advisory services on timing, amount, and pricing of an issue. As well, the lead dealer provides advice on issue distribution, after-issue market support, and after-issue market informational support. Obtaining a reputable dealer also tends to result in better market acceptance of the issue and cheaper financing for the issuing corporation.

Initial Negotiations and Due Diligence

When negotiations for a new issue of securities begin between the dealer and corporate issuer, the dealer normally prepares a thorough assessment of the corporation and its industry. The study includes the corporation’s position within the industry, financial record, financial structure, and future prospects. All risk factors associated with the industry and the company are closely observed. This assessment is known as a due diligence report.

Various experts in appropriate fields such as engineers, geologists, management professionals, or chartered accountants may be consulted. Following this comprehensive study, the dealer determines whether the corporation is a suitable candidate for a new issue and decides if they will proceed as the lead dealer.

Role as Principal or Agent

The dealer may choose to act either as a principal or an agent for the corporate financing. Regardless, the issuing corporation relies on the dealer’s advice and guidance to design the various features of the securities. This advisory relationship parallels the professional relationship between a lawyer and a client.

Once solidified, the dealer may become the broker of record with the right of first refusal on new financings planned by the corporation.

ADVICE ON THE SECURITY TO BE ISSUED

The lead dealer’s corporate finance team plays a vital role in designing the new issue and advising the corporation on the best market strategy. The corporation aims to ensure that new securities align with its capitalization strategy and that restrictive provisions do not hamper future decision-making.

Market Assessment and Recommendations

The dealer’s recommendations are based on a variety of factors including current market conditions, investor preferences, the impact of financing options on the corporation’s existing capitalization, and future earnings stability. Table 12.3 provides a summary of considerations for issuing different types of securities:

Table 12.3 | Issuing Securities

Advice on Protective Provisions

The dealer provides advisory services on the security’s specific attributes, for example, interest rates, redemption processes, and various protective provisions.

These provisions, known as protective provisions, trust deed restrictions, or covenants, are safeguards for security holders in case the issuers’ financial conditions change. For different securities, these clauses have different terminologies:

• For mortgage bonds, they are termed deed of trust and mortgage.
• For corporate debentures, they are known as trust indenture.

Consultation with Experts

To ensure the accuracy of the due diligence report and the final advisory recommendation, dealers sometimes consult with experts from sectors related to the corporation’s business. This helps in understanding the operational and financial intricacies of the corporation.

Key Takeaways

• Dealer’s advisory roles include selecting the time, amount, and pricing of an issue, as well as post-issue support.
• Independent assessments involving a due diligence report are critical in determining a corporation’s suitability for a new issue.
• Depending on the relationship and confidence developed, the dealer may either act as a principal or as an agent in the issuance process.
• Different types of securities, such as bonds, debentures, preferred shares, and common shares, come with distinct advantages and disadvantages which must be carefully evaluated.
• Protective provisions and covenants secure the interests of security holders and must be customized based on the issuing corporation’s financial health.

Glossary

• Broker of Record: The designated broker who has a primary advisory and transactional role for a corporation’s financing activities.
• Due Diligence Report: A comprehensive appraisal of a business undertaken by a prospective buyer or investor, considering an array of financial, operational, and market factors.
• Protective Provisions: Safeguards included in security agreements to protect the interests of investors.
• Trust Deed: A formal document outlining the responsibilities of trustees and rights of bondholders or debenture holders.
• Trust Indenture: An agreement in debt securities that include restrictive covenants to protect bondholders.

Frequently Asked Questions

What factors do dealers consider in the due diligence process? Dealers analyze the corporation’s industry standing, financial health, growth prospects, and associated risks. They may also consult experts as part of this comprehensive assessment.

What is the difference between acting as a principal and acting as an agent in financing? Acting as a principal means using their own resources to finance the corporation, while acting as an agent involves arranging financing between the corporation and third-party investors.

How do protective provisions benefit investors? Protective provisions offer safeguards against financial deterioration of the issuer and protect the investors’ interests by imposing operational and financial restrictions on the issuer.

Why might a corporation choose to issue debentures instead of bonds? Corporations may prefer to issue debentures over bonds because they provide more flexibility since they are not secured by specific assets and have lower initial costs at issuance.

In this section

• 12.3.1 Method Of Offering
  Explore the different methods of offering securities in corporate financing, including private placement, public offerings, and the distinctions between primary and secondary offerings.