“Sarbanes-Oxley compliance and the increased capital available in the private sector have presented critical factors for today’s companies to consider, relative to either going public or going private,” says Darrel C. Smith, managing partner for Shumaker, Loop & Kendrick LLP’s Tampa office. “The difference between a being a profitable company and a nonprofitable company could come down to the significant costs associated with and continuing as a public entity.”
Smart Business spoke with Smith about the risks and benefits of taking a company public, and what factors are driving some companies back to private ownership.
Why should a company consider going public or staying public?
The No. 1 reason for going public is that it can be a good source for less expensive capital to quickly grow a company. Additionally, it can create greater visibility and enhanced corporate reputation.
Owners, investors and employees can benefit by owning shares with a ready public market to liquidate them. Finally, it’s easier for a public company to establish its valuation.
What benchmarks indicate it may be time to go public?
IPOs offer a unique ability to obtain significant capital at a lower cost with fewer restrictions compared to traditional loans and private equity, but only if the company has a solid track record of profitability and high gross margins within a healthy market sector. Additionally, the company should have significant growth opportunities available to it, strong management and infrastructure, and a need for substantial funding to grow the business.
It’s critical to understand that going public doesn’t suddenly add value to a company. It can actually reduce the company’s value because of the increased expenses.
A number of factors may indicate that it’s too early to take a company public. Obviously, if your company does not meet the criteria to list shares for trading on NASDAQ, NYSE or AMEX, or if the offering will result in too few public shares or, in other words, not enough public float it’s probably too early to consider going public. A lack of public float can lead to an illiquid market and difficulties attracting necessary institutional analyst coverage and active market-makers necessary to create a market for your shares.
What are the obvious and hidden costs of going public?
The obvious monetary costs are substantially increased organizational costs, and audit and legal fees. Some other obvious costs include printing fees, increased directors and officers insurance premiums, and SEC and exchange fees.
Hidden costs include ongoing professional fees and the continuing costs of being public and ensuring compliance. These costs run well more than $1 million a year, regardless of the size of the company.
There are also substantial hidden costs for in-house GAAP (generally accepted accounting principles) expertise and public and investor relations. It should also be noted that nuisance lawsuits often increase for publicly traded companies because folks believe there is a deep pocket.
A nonmonetary cost is the diversion of management’s attention to going public and dealing with compliance matters. This can create an opportunity cost because it takes them away from running and growing the business.
What is leading some public companies back to private status?
Some are smaller companies seeking to get out from under the cost of SOX (Sarbanes-Oxley) compliance. Others are being lured by the ready availability of private equity and loans at rates that can be competitive to public financing and opportunity to get out of the quarter-to-quarter pressure of being a public company.
Some are seeking the increased flexibility and reassumption of control in running a private business, as well as the ability to grow the business for the long haul instead of managing just to meet short-term market expectations.
What key drivers should be considered before going public?
First, do you have a strong balance sheet and financial history? Second, will you be able to attract one or more reputable investment banking firms to underwrite a public offering, offer coverage of your company and provide market-making support? Third, do you have high-growth potential with a need for significant capital?
A thorough legal review of the regulatory steps and considerable financial obligations related to going public may help decide the ongoing debate about taking your company public. An experienced securities law attorney can help guide a company through the evaluation of whether going public or private is the right move.
DARRELL C. SMITH is managing partner of Shumaker, Loop & Kendrick LLP’s Tampa office. Reach him at (813) 227-2226 or firstname.lastname@example.org.