OBJECTIVE: Going public is not a realistic choice for most businesses. But for a business with a growing and sustainable product or service, public ownership could become an ultimate goal. At the same time, it is a highly complex process. This session will help you evaluate whether going public is right for your business.
Going public is not a realistic option for most businesses. But for an entrepreneur with a growing and sustainable product or service, public ownership could become an ultimate goal. It is a costly and complex transition that cannot fully be covered in the scope of this session. Our goal will be give you a broad overview of the advantages and disadvantages. It will be worth reviewing "Expanding and handling problems" session.
If you have ambitions for future public ownership, it is a good idea to begin operating like one long before the act. This could include beginning to build a board, including a majority of independent directors, and having your annual financial statements audited. By acting like you're public before you actually are will go a long way in smoothing out the complex transition.
A track record Public ownership will put you under the scrutiny of the investment banking world. As a candidate for public ownership, you will need to earn the public trust by already having achieved success over a period of time.
You will be looked upon as "small cap" stock. While investors have different viewpoints on "small caps" your small size could be perceived as an advantage because small firms can grow more rapidly than large ones. When Walmart adds ten stores, the impact is negligible. But when a small cap adds ten stores, the grow rate could be noticeable.
A history of earnings While it is not uncommon for firms in the Internet technology field to go public on the strength of future earnings, a history that shows an upward trend of earnings usually plays an important role in the success of new public offerings. Stockholders don't like surprises in earning reports so a past history of highly volatile earnings could greatly diminish the appetites of prospective stockholders.
A strong potential for future growth While a track record of consistent and growing earnings is important, there is another characteristic that is absolutely essential, you will need to demonstrate that your present operation can be scaled up to far higher levels. This requirement could eliminate many solid companies from the prospect of public ownership. Here are some examples of good and poor prospects:
A highly profitable auto (or other) dealership. The risk of future elimination of the dealership function in the marketing chain could make it an unacceptable shareholder investment.
A business or service dealing in a commodity. Unless the company has a long-term advantage of being the lowest cost producer, earnings will be limited by the lack of pricing power. Examples would include the airline industry, textile companies or steel producers.
A product or service that is an unsuitable for geographical proliferation including franchising.
Paul Iam created a line of premium pet foods. Mr. Iam later sold out to Proctor and Gamble who expanded it into world-wide markets.
Amazon.com was the "firstest with the mostest" to exploit rapidly emerging appetite for on-line marketing.
A single pie shop became the model for expanding into a chain of bakery-restaurants (Marie Callender).
A sustainable market for your product or service It will be important that your product be capable of serving a widespread and ongoing need in perhaps a unique or better way. This would eliminate products or services that are short-lived in their usefulness, style or appeal such as:
The George Foreman grill is an example of a kitchen appliance that became a fascination in the US as well as an outstanding solution to busy working people. But perhaps an unlikely product for public ownership because of its potentially lacking long-term pricing power.
A single, proprietary, patented product. A granted patent has a life of 20 years. A design patent only endures for 14 years. The potential stockholder will ask: "And then what?" Publicly owned drug companies overcome this problem by having many new patented products in the developmental pipeline.
Strength in governance and accounting You will need to have strong compliance with regulatory requirements in place well before your IPO to demonstrate your readiness to operate at expected levels of compliance. A good place to start would be to have a discussion with your accountant to determine the additional cost of beginning to have your annual financial statements audited. Your chief financial officer must be capable of upgrading and managing financial systems and reporting requirements as well as internal controls, cash and debt management. Accounting expenses could represent the largest single expense in your readiness process. Your lawyer will also have recommendations on other governance issues that you could be begin to implement.
A highly qualified management team You will need highly qualified operating managers. Providing key managers with stock options may be an appropriate way to motivate key people and also provide an incentive in recruiting managers for key areas such as finance, public relations, production or marketing. Also keep in mind:
The CEO should be an outstanding spokesperson in handling interviews, press releases, news stories as well as internal communications with company employees.
Managers in all operating functions must be financially trained and in tune with overall, long-term growth programs including sales, earnings and market share.
A clearly stated growth program Prospective shareholders will need to know just how you plan to scale up your present operation. You will need to explain this in simple language that anyone can understand:
A successful retail establishment or service could be the beginning of public ownership. You should conservatively describe how this footprint operation can become a template for more to come.
A successful chain of fast food stores could outline how a franchised program will be utilized to build a national or international chain.
A well-operated, localized direct selling firm could spell out how the business will be expanded internationally.
In outlining your growth program avoid statistical forecasts, complex wording and exaggeration. Instead, understate your goals and overstate the time it will take to get them accomplished. Never disappoint your prospective co-owners by failing to meet your stated objectives.
What are the benefits to becoming a publicly owned company?
Access of capital The greatest benefit of public ownership is raising money. This is accomplished by the sale of stock in an initial public offering (IPO). Your stock can also provide compensation for either key employees or employees as a whole.
Capital raised by an IPO can provide for growth, for acquisitions, pay off debt or provide funds for research and development. Later on if you require additional capital you can go back to the public with additional offerings. Public ownership is also good for society as a whole by providing funding to enable growing companies to create new jobs, help improve the standard of living as well as overall social conditions.
Higher valuation of the company As a publicly owned company, the overall valuation of the company will increase for a number of reasons:
The additional liquidity achieved will add value by lessening the risk of cash flow shortfalls and problems servicing debt.
Assuming your success is ongoing, people will place a higher valuation because they will have much better and reliable insights into your financial and operating affairs.
There is a value placed on having a market valuation available at all times.
Use stock as currency to acquire other companies Your capacity to purchase other businesses will expand by either using cash proceeds from the sale of stock or by using the stock itself as currency. Using stock to make acquisitions is of special benefit when the public is placing a high valuation on your stock.
But be careful...in some cases the seller may want a provision to receive more stock in event of future declines in value. A famous example is the Denny's Restaurants acquisition of Winchell's Donuts. Over time Vern Winchell ended up controlling Denny's after their stock declined.
You are a more attractive suitor for acquired companies An owner that is considering selling you his or her business has spent a lifetime building the firm. There will be an emotional component as well as a monetary interest in evaluating how their life's work is to be carried forward. As a publicly owned firm, you will have a higher level of appeal than a private firm. The owners of a selling company you acquire can be assured that your audited financials will make for a stronger and more transparent future for their business.
Ken Blake CPA
When should a company have their financial statements audited?
Establish a public valuation of your company A big problem as a private firm is that the value of your firm is unclear and subject to different perceived valuations. But as a publicly traded firm, the day to day valuation of the firm is clearly established by the market. But keep in mind that a poor valuation of your company would obviously not be an advantage.
Provide liquidity for the owners A big drawback to private ownership is you can be asset rich and cash poor. It is not uncommon for business owners to live frugally for years while earnings are used build the business. Earnings go into the business rather than into their pockets. But the ownership of a publicly traded firm provides the owner liquidity to raise cash by sales of stock.
The stock will provide for stock option plans for key employees As a public company you will be able to recruit and hold more highly qualified key employees by offering stock options. The company stock will not only bring you top management talent but stock option plans can be used to motivate employees as a whole. A key to Sam Walton's success with Wal-Mart was stock options from the very outset which created a zeal of ownership at all levels.
Keep in mind that private companies can also implement stock option plans but the main difference is that it's easier for employees to "cash out" when the stock is publicly traded.
Facilitate exit strategy Public ownership of stock will provide both a valuation of the stock plus liquidity of ownership that make it much easier for your ultimate retirement as founder.
But the disclosures made as a public company also have advantages. Larger companies that may be interested in acquiring you will have assurance that you are providing a transparent and accurate database of information.
Higher accounting costs Your accounting costs for at least two years prior to going public and while public will be substantially increased due to the requirements of audited financial statements. Your accounting department will need staff to prepare quarterly and annual financial information.
Your ownership valuation will be subject to market fluctuations Your ownership valuation is going to fluctuate with the stock market. There will be times that your company will be valued at higher than its intrinsic value and other times where it can be much below its true value.
You will lose some flexibility in operating your business Confirming to state and federal securities laws, especially on occasions when you are required to get shareholder approval for your actions, will impose constraints not present when operating a privately owned business. In most instances however such restraints will be constructive in helping avoid business mistakes that could result without the restraints in place.