A prospectus is a legal disclosure document that is provided by a company when the company wants to sell its securities to the public.
Typically created by the company's legal and accounting departments, a prospectus is a formal invitation to the public to subscribe to the shares of a public company. Investors use a prospectus to determine the growth and profitability prospects of the company to determine whether they will take part in the offering. In the U.S., the legal name of the public filing is an S-1.
A prospectus includes all the necessary details about the sale of a company's securities. It contains the company's financial position, the number of shares being offered and the types of securities in the offering. The document typically discloses the company's operations, the management team, the purpose of the securities in the offering, intended use of the proceeds and investment risks.
An issuer provides both a preliminary and a final prospectus. While the preliminary prospectus is the initial offering document that provides details about the proposed transaction, the final prospectus is provided when the offering has been finalized and is being offered to the public for subscription. The information in the final prospectus includes the number of shares issued, the offering price, the company's financial data, risk factors, use of the proceeds, the dividend policy and other relevant information. This information helps investors make informed decisions on whether to invest in the company.
There are three different periods during the U.S. registration process:
- Pre-filing period. This period begins when the company is first considered for registration. The company usually reaches an agreement with the investment bank that will act as the managing underwriter. The period ends when the company files a statement with the Securities and Exchange Commission. Subject to exceptions, no offers can be made during this period. Prospective purchasers cannot be contacted, and underwriters cannot be publicly disclosed in connection with the company's offering. Issuers and authorized persons may engage in oral and written communications with qualified institutional buyers and institutional accredited investors both before and after the filing of a registration, a process referred to as testing the waters. This rule is non-exclusive, and other SEC rules and exemptions may apply.
- Waiting period. This period begins when the issuer files a registration statement with the SEC. It ends when the registration statement is declared effective. During the period, offers are permitted – either orally or with a preliminary prospectus. Subject to certain conditions, an issuer – such as an initial public offering, or IPO, issuer – can use a free writing prospectus, or FWP. An FWP is written communication that discloses information not included in the registration statement. During the period, indications of interest are permitted, while sales are prohibited. For an issuer using the confidential review process, this period begins when the registration statement is first filed publicly, not when first submitted to the SEC on a confidential basis.
- Post-effective period. This period begins when the registration statement is declared effective. It ends when broker-dealers are no longer required to deliver a prospectus by the Securities Act, which is 25 days after the registration statement is declared effective for an IPO. During this period, sales are permitted, and certain communications – such as FWPs – are permitted. An FWP of an IPO issuer or an unseasoned issuer, defined as any issuer subject to periodic reporting requirements, must be accompanied or preceded by a final prospectus.
A mutual fund and exchange-traded funds prospectuses are similar to those for stocks and bonds but, in this case, the SEC requires funds to make information available to interested investors. The details provided in the document include the fund's objectives, fees, risks, performance, distribution policy, executive team and investment strategies.
While funds are required to give investors the document free of charge after the purchase of shares, investors can access the information prior to purchasing shares via mail or on the fund's website.
The history of the prospectus stems from the Securities Act of 1933, which was the first federal legislation used to regulate the stock market. The act took power away from the states and put it into the hands of the federal government. The act's uniform set of rules was put in place to ensure greater transparency in financial statements, allowing investors to make more informed decisions regarding their investments. The rules also established laws to protect investors against misinterpretation and fraudulent activity in the securities markets.
