What is a Red Herring (Securities)?

A red herring is a preliminary prospectus or registration statement filed with the Security and Exchange Commission of the United States (SEC) by a company as part of a public offering of securities. A red herring prospectus is generally associated with a company's initial public offering.

What is a Red Herring Prospectus?

A prospectus is used to inform potential investors of the terms of any investment in a company seeking to sell securities. A red herring prospectus includes the information related to the company's operation and financial status. It doesn't mention the price and number of the shares are to be offered. All the subsequent drafts of the prospectus are also known as the red herring prospectus until it gets approval for public release. 

The SEC reviews the drafts to ensure the information provided in the proposed prospectus is correct and accurate. It seeks to make sure there's no information in the draft that is false or could cause confusion for the potential investor. The SEC may also direct the company to include some mandatory information in the prospectus that is missing in the draft. 

A red herring prospectus comes with a disclaimer stating that it is a registration statement filed with the Security and Exchange Commission and the statement is not yet effective. The disclaimer asserts the information provided in the prospectus may be subject to change and the information is not complete. 

It also states that the underlying securities can be sold only after the registration becomes effective. This disclaimer is printed on the cover page of the preliminary prospectus in red bold letters, the name red herring is derived from this requirement. 

A company can include more information in the subsequent drafts either to comply with the directions of the SEC or pursuant to their own efforts to make it complete. 

The red herring is the first impression investors get of a new company. 

The prospectus includes all the pertinent information about a company, such as the market potential of its products and services. 

It also details how the company intends to use the funds raised from the offering. 

A red herring prospectus must also include information about the management and current major shareholders. And it reports any pending litigation of the company. 

The SEC does not actually approve a prospectus; rather, they seek to ensure all the relevant information are provided in it and the information is true and correct. 20 days is the minimum period between the filing date of the registration statement and the date when it becomes effective. 

After the registration statement becomes effective, the final prospectus is published with the final number of shares offered and its price. The trading begins only after the registration statement becomes effective and the final prospectus is distributed among the prospective investors.

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