Are you ready to IPO?

Taking a company public marks a significant stage in that company’s life and an Initial Public Offering (IPO), which is the company’s first sale of its securities to investors on a public stock exchange, is the route into that public environment. Whilst the rewards are potentially attractive the IPO process is itself very challenging and involves a great deal of upfront management time, preparation, planning and cost. Furthermore, going forward, an IPO marks the cross-over point of the company as it launches into a new and more demanding culture of management, corporate governance and public scrutiny. As such, it should not be entered into without advance preparation and planning, including the appointment of experienced advisers to assist with that preparation and planning and thereafter to actually implement the IPO. It is this preparation and planning that will most likely dictate the successful outcome of an IPO and the ability of the company to survive (at least in the short term) the public arena post-IPO.

Whilst many companies will at some stage in their business cycle consider whether they should go public it is firstly necessary for them to consider whether they are ready to IPO, given the company’s current stage of development and in view of its future prospects. Whilst some companies could at any given moment offer a good investment opportunity story to the market they may well not, on several fronts, be ready to IPO and if they should proceed with the IPO process in an unready state they run an increased risk that that process will at some more advanced stage derail or simply that the success of the IPO will fall short of expectations, in each case with the company having invested a significant amount of time and cost in the process.

In deciding this, the company will need to consider the following key questions:

• What are the advantages and disadvantages of going public for the company?
• Does the company have a strong senior management team with sufficient public company experience to survive in the public eye?
• Does the company have a proven history of revenue growth and profitability coupled with strong financial reporting controls and procedures which lend credibility to the reported numbers?
• Does the company have a clear strategy mapped out to achieve its stated objectives?

Investors tend to have shown little patience in recent times with public companies that fail to deliver on their stated strategies and to achieve the financial performance they aspire to. Irrespective of what industry sector the company is in and how the market might perceive an opportunity to invest in a new opportunity in that sector, a company will need to consider and answer these key questions as frankly and objectively as possible and in so doing it will gain a better understanding firstly of how it is positioned in readiness for an IPO, secondly (where it falls short) what it needs to do in order to be ready to IPO and, thirdly, whether (having delivered successfully on an IPO) it can weather the demands of public company status going forward.

Advantages and Disadvantages of Going Public

These are well documented but the importance of a company understanding exactly what ‘going public’ means before it chooses to IPO cannot be over emphasised. The key advantages are:

• Ability to raise funds in the IPO
• Increased access to future capital
• Having publicly-traded securities which can be used as currency for future acquisitions
• Being better able to attract and retain personnel through employee share or option schemes in relation to publicly-traded shares
• Liquidity for the company’s owners, including venture capital or other professional investors
• Increased market profile and status for the company

The key disadvantages are:

• Public disclosure of certain company information – e.g. salaries; transactions with management
• Significant demands on senior management time during the IPO process
• Significant ongoing compliance obligations post-IPO
• Increased liability exposure for the company’s directors
• Reduced flexibility and control managing the business due to corporate governance matters
• Increased ongoing costs and expenses – e.g. professional fees

Where To List

Choosing where to list the company’s securities is a very important decision because it affects both the IPO itself and the regulatory environment in which the company will operate post-IPO. Both commercial and legal considerations will need to be borne in mind when deciding where to list. From a commercial perspective, factors such as the company’s funding and liquidity requirements and the strength of analyst coverage and potential relative valuations will need to be considered. The commercial benefits will need to be weighed against the regulatory compliance cost and burden associated with the particular listing environment too. For example, it may be that a listing in the US environment will produce a desirable valuation premium for a particular company but this has to be considered against the backdrop of complying with the more burdensome and costly US regulatory regime, which includes the US Sarbanes-Oxley Act, and the higher US litigation risk, in each case as compared to obtaining a listing in Europe.

Senior Management Team 

A company’s senior management team is of crucial importance to the success of an IPO. The demands on management time and energy are significant when set against the background of continuing to run the business, especially if the transaction involves and exit by a private equity firm running in tandem with the IPO process. The company will need to consider carefully whether there are sufficient resources to cope with the demands of the IPO process and also whether the existing board and management structure are suitable for a listed company. For example, are key finance roles on the board filled appropriately?

Corporate Governance

In light of the stringent corporate governance requirements applicable to public companies it is likely that one or two new members who are considered “independent” will need to be appointed as non-executive directors to the board. Furthermore, new board committees will need to be formed (e.g. audit, remuneration and nomination committees). The process of identifying suitable new persons for appointment to the board can itself take a great deal of time and effort, which needs to be factored in. Any new directors will usually want to be involved in the IPO process from the outset due to increasing concern over personal liability relating to the IPO. In addition, given the increased risk of directors being sued when a company goes public, the directors will usually require the company to take out adequate D&O insurance. The level of coverage will largely depend on where the company lists, the type of offering and the company’s risk profile.

Financial Information and Reporting Procedures 

From the outset the company should agree with its advisers on the financial information that needs to be included in the offering document. A key determinant of the IPO timetable is the preparation of the financial statements. If the company has a complex financial history (for example because it has made a number of recent acquisitions or disposals or it has been spun out from a larger group) it is a good idea to discuss with the relevant listing authority what financial information will be presented in the offering document. There are a number of questions which the company will need to consider under this head: does the company have 3 years’ audited financial information? Are any changes in accounting policies or additional disclosure notes required (e.g. to IFRS)?  Have there been any significant acquisitions which may require additional financial information? Will a new opinion from the reporting accountants be required? In any event, it is usual practice to launch an IPO on the back of a company’s year-end or interim financial statements.

The company will also need to consider whether its financial reporting procedures and controls, which underpin and ultimately determine the credibility of the financial statements, are sufficiently robust for a listed company, bearing in mind the continual pressures on a listed company to report to its shareholders and the increased significance of the company’s numbers which the market will scrutinise and report on. The company will also need to consider in this context: Are the company’s financial processes, controls and the IT environment adequately established? Can short reporting deadlines for interims and full year results be met? Are procedures for producing budgets and financial forecasts established and is there a detailed, integrated working capital model?

Corporate Structuring and Taxation 

The company will need to consider and get advice on whether the existing corporate structure of the company (including its subsidiary entities) is suitable to proceed with a listing or whether certain corporate restructuring should be effected prior to listing. For example, the company should consider whether the existing corporate structure and jurisdiction will be clear and understandable to the market and whether they are designed to optimise tax, whilst ensuring adequate distributable reserves.

Timetable 

The company will need to consider whether there is a realistic timetable in which to achieve the IPO process. While the timing will vary depending on the prevailing circumstances, the IPO process generally takes from three to six months to complete once the company appoints external advisers. Market conditions however may significantly extend the timetable and a company can begin to work on the above issues at an early stage in order to shorten the IPO process and to allow the company to react more quickly to favourable market conditions.

Even if you are not considering an IPO for your company now but you envisage it being a possibility at some point in the future, it may be worth talking to an experienced group of advisers even at this relatively early stage in order to assess whether your company is ready to IPO and, if not (as is more likely the case), what you need to do in order to get it ready to IPO so that, when prevailing market conditions are right, the company can take advantage of those conditions as quickly and as effectively as possible and avoid missing out on a successful IPO because it has to spend more time getting to a state of readiness.