IPOs: How do you know what's right for your company?
(As originally published in the Financial Post, 5 November 2012)
By Bill Demers, FCA, Partner and Canadian IPO Leader, Ernst & Young LLP
For fast-growing private companies seeking to raise capital, an Initial Public Offering (IPO) can be a superior route to funding growth.
An IPO is the first sale of a company's shares to the public and the listing of the shares on a stock exchange. It allows a company to raise capital to build its business by creating and selling new shares.
Not all businesses are suited to life in the public eye. But for many fast-growing private companies, an IPO can raise the capital they need to accelerate growth and achieve market leadership.
We sat down with Bill Demers, IPO Leader at Ernst & Young to discuss what things fast-growing private businesses need to consider before starting out on the IPO journey.
Q: IPO: How do you know if it's the right option for your business?
Before embarking on an IPO, owners must evaluate the possible transactions that could be a stepping-stone to an IPO. Some might even be an attractive alternative to a public listing. They include:
- Sale to a strategic buyer through the M&A market
- Sale to a Private Equity firm
- Private placement (often an important pre-IPO step)
- Joint ventures and strategic alliances
After evaluating these alternatives, owners still want to consider can IPO, it can be a useful tool for funding growth and utilizing relatively low-cost capital. Accessing public capital allows companies to fund acquisitions either through cash or the use of publicly traded shares as “currency.” In addition, an IPO usually raises public profile and credibility of your company in the marketplace with customers and suppliers. Therefore, an IPO can be an excellent avenue for securing the financial viability of the business and, for an entrepreneur, it can be the next step in growing their business. An IPO may even be a successful exit strategy, allowing entrepreneurs to move on to their next big idea.
Q – What risks are involved in an IPO?
Going public is not for everyone. The potential pitfalls are numerous and the stakes are high. Business owners and directors should think carefully about their business fundamentals before embarking on the costly and time-consuming IPO process. For instance, once a company goes public, management usually has less flexibility and the process may also cost management controlling interest in the business, something founding shareholders in particular can find hard to accept.
There is also the impact on the business including increased time spent on reporting and the costs associated with this. There is also the threat of exposures presented of being a public company. The increased public scrutiny/ criticism and financial and business disclosure requirements with the securities commission puts a lot of strain on companies, so management must ensure they are fully prepared to handle these issues before going public.
Q – How do you prepare for an IPO?
Our experience shows that successful companies approach an IPO as a transformational process rather than the endgame or just a financing event. This can take anywhere between one to two years to plan. Companies considering an IPO within the next two years should immediately begin taking the necessary steps to ensure they begin acting as a public company as soon as possible. This includes having the necessary discussions to ensure the right board of directors are in place to make the transition successful.
Meanwhile, management and directors should encourage their firms to approach it as a transformational process rather than just a financing event, and work to anticipate and address future investors' concerns. Management should ask themselves:
- Will the structure be able to withstand the demands and growth anticipated as a public company?
- Are any changes necessary before moving further along with the IPO?
- Can we tell a compelling story?
Investors will scrutinize your company and its bottom-line performance much more closely than before, so it's imperative that companies are able to demonstrate to investors that they have business models that performed well in the downturn, a solid track record, an actionable plan to sustain growth and that are well able to service their interest and debt.
Q - What are the biggest rewards of an IPO?
There are several rewards of going public including gaining access to capital to finance growth including mergers and acquisitions; the creation of liquidity; maximizing your company's valuation; enhancing of your company's public profile in the marketplace with customers and suppliers, the ability to grow your company and use your company shares for transactions instead of a cash and an IPO can be an excellent exit strategy for business owners looking to more onto the next challenge.
Q - How do you set the price for your IPO?
As an advisor to many companies, this is probably the most asked question I receive. The price is based on discussions with your broker/investment dealer on what is appropriate for your company. This is based on your company's market value and the number of shares outstanding. The underwriter must ensure the price is attractive for investors by reflecting the true value of the company, and its future growth prospects. The share price is considered important because it affects public perception of the company. Other price influences are past earnings, economic climate, projected future growth of the company, potential resource prospects and any special considerations.
Q – How do you ensure success after the IPO?
Company's must have an aftermarket strategy. Once the IPO is over, the process of retelling and fine-tuning the company's equity story begins. Company owners must develop a proactive investor relations strategy that will attract the optimal ownership mix and long-term pipeline in the aftermarket. Successful executives target the type of investor that will maximize liquidity and valuation.
Throughout the IPO value journey, senior management's focus should be not only on going public but also on being public. Although IPO readiness can lead to a successful IPO outcome, all of the best financial engineering will not create business prosperity — only proper planning and adherence to strong operational execution will forge the path to long-term success.
While markets will continue to evolve and companies may hold off on an IPO until the perfect time, those companies that are fully prepared for these changes will be most successful at leveraging the windows of IPO opportunity, whenever they open. To learn more, refer to Ernst & Young's guide to going public - Are you ready? We are.
Bill Demers, FCA, is Partner and Canadian IPO Leader, Ernst & Young LLP. He has worked extensively in assurance and advisory roles over the past 31 years, and has advised a number of companies through the IPO process.