By Jennifer A. Knecht
Every year, growing companies consider exploring public markets, where they can find the huge benefit of immediate access to capital. But taking that step also can be a large expense, and it can change the way companies operate, what management teams focus on and how autonomous they are. Senior executives making decisions about going public have a lot to think about.
Deciding If the Time Is Right
First, it’s important to assess whether going public is the right thing for the company and whether it’s the right time. Decision-makers should consider the following:
- What are the company’s goals? Leadership should assess what the company wants to do and how much capital it needs.
- What alternatives exist for raising capital? Will those alternatives allow the company to achieve its goals? For instance, it might be desirable to put off going public if bank funding or private equity are attractive options.
- What’s the future outlook for the industry or the business? If a recession appears imminent, it might be hard to match past growth, but acquisition opportunities might exist.
- Are the owners ready to give up control of the business to public shareholders?
- Does the company have the right expertise and infrastructure to go public? If not, what will it take to get to that point? Any private company will have to hire management and outside advisers with experience working with investors, the U.S. Securities and Exchange Commission (SEC) and the stock market exchanges.
- What value will the markets add to the company? Investment bankers and other advisers can help assess the company’s value, but sometimes stock prices fall after an initial public offering (IPO). A company might find investors cheering the IPO one year while considering the same company a dud in a different year.
Reasons Companies Stay Private
Going public results in some fundamental changes that need careful consideration. With a public float, companies fall under greater scrutiny. The public markets often put a heavy emphasis on short-term results rather than long-term investments. In addition, the SEC disclosure regime can be difficult to navigate. Public companies have less privacy, and management must disclose material events to the public.
Besides the costs of greater scrutiny, other concerns also exist. The financial costs of going public are significant and vary by company. In addition, the costs do not end with the IPO. Many costs will continue to be significant due to ongoing reporting requirements. Companies will need to consider the cost benefit of completing a successful IPO.
The Benefits of Going Public
Once companies have considered the challenges of going public, they also should examine the potential upsides. An IPO is an opportunity for existing shareholders, many of whom have built the company into what it is, to diversify their investment portfolio. Going public can help raise capital to fund acquisitions or organic growth, or it can help pay down debt. In addition, a public company often can reduce the amount of cash outlay required to fund an acquisition. A public company might be able to use its common shares in lieu of cash. Going public can allow a company to grow through greater access to capital and to gain the visibility and name recognition that come with being a public company. Furthermore, a public company often can benefit from using a stock-based compensation program to attract and retain key employees. These types of programs can be more attractive to employees if the stock is publicly traded.
The People and Processes Public Companies Need
Once a company has decided to go public, it should take steps to prepare for and complete the transition. The following staff and outside advisers will be valuable:
- SEC counsel
- Underwriters and their attorneys
- Auditors experienced with IPOs and registered with the Public Company Accounting Oversight Board (PCAOB)
- An investor relations department
- In-house staff that can navigate the IPO process and prepare ongoing filings once the company is public, including meeting deadlines to file quarterly and annual reports and other SEC-required documents
- Board members with broad business experience and knowledge of the company’s operations
- Audit committee members who have knowledge of, and familiarity with, SEC rules and regulations, generally accepted accounting principles, and PCAOB standards and who meet audit committee requirements for each stock exchange listing
- Additional third parties, such as valuation and tax specialists, if in-house personnel don’t meet these needs
The company’s accounting processes also might change substantially. SEC guidance for public companies covers everything from financial reporting matters to disclosure rules for cybersecurity and climate change. Many private companies’ historical financial accounting and reporting practices will not have considered SEC guidance, including revenue recognition and presentation, goodwill, valuation of stock compensation and complex financial instruments, so considerable backward-looking deep dives into financial statements likely will be necessary.
Typically, consolidated audited balance sheets are required for the two years before going public. Three years’ worth of statements of income and comprehensive income, changes in stockholders’ equity, and cash flows also are required, except for companies that qualify as emerging growth companies and small growth companies for which only two years are required. To address these requirements, the private company might need to make substantial staffing changes to its accounting department before going public. The company’s IT systems also must be able to analyze and report financial information well in advance of scheduled earnings releases.
Determining whether an IPO is right for a company is a complex decision. A clear understanding of business objectives and a critical assessment of whether the business is capable of meeting the demands of being a public company are critical to success. For more information on going public, see the Crowe publication “Reaching the Pinnacle: A Guide to Going Public and Living as a Public Company.”