Privately owned companies wanting to raise capital could benefit from listing their company on the stock exchange as an Initial Public Offer (IPO). Companies who can demonstrate a strong, sustainable track record of growth earnings backed by well protected Intellectual property, the benefits could be substantial. Greater marketability, financial benefits, higher credibility and media coverage as well as attracting quality staff and mergers and acquisitions are just some of the positives from going public.
There are a number of alternatives for owners of privately owned companies to raise capital, and in recent years an Initial Public Offer (IPO) on a stock exchange has proved very popular.
However, an IPO is a significant step. It doesn’t happen quickly and months, indeed years, of pre-planning is necessary to get a business ready for public listing.
It can also be a costly and disruptive process in the short term and, once listed, the company is subject to an increased level of reporting requirements and public scrutiny, as well as pressure from shareholders to meet earnings and dividend forecasts and maintain a rising share price.
So owners need to consider their options very carefully to ensure an IPO is the best option for them.
There are a number of pluses and minuses that business owners don’t always take into account at the outset.
On the negative side, going from a privately run entity where there is little, if any, scrutiny of accounts or business decisions, or owners’ personal income from the business, to an environment of public accountability and a high level of scrutiny, is often uncomfortable for business owners.
There needs to be a change in outlook to recognise responsibilities to the other shareholders who have an ownership stake in the business in the future, with corporate governance and financial transparency programs being essential.
There are also stringent requirements for financial reporting and a demanding annual reporting timetable to be met. These require an extra level of discipline for most privately owned businesses.
The extra burden on management should also not be underestimated, with additional obligations in a number of areas, for example, the release of price sensitive information.
A company must convince investors that it is a business able to meet both its strategic goals and the reporting and regulatory requirements of a listed company. This requires demonstration of a capable and committed management team, robust management information systems, and an effective board and corporate governance structure.
On the other hand, there are a number of advantages (as shown in more detail in the accompanying chart) that can outweigh any negatives.
The issues of public scrutiny and financial accountability can be turned into positives if the newly-listed company takes advantage of its higher public profile to create business opportunities.
Public company status can be a huge advantage when negotiating and doing business with new people and particularly when entering new markets. It allows the company to make its views more authoritative on issues that affect its operation, and they are heard better through government access, stock exchange announcements, and shareholder communications. In addition, company successes are more likely to be of interest to the media.
Corporate governance requirements of a public company also encourage constant reappraisals of strategies and business plans and a more open approach to communication from which most businesses will benefit. More opportunities are likely to be brought to the managers of public companies.
There are right and wrong ways of going about an IPO, which can affect the amount that can be raised, the impact on business operations, and the value of the shares when they are listed and in subsequent years.
Planning ahead makes all the difference. Isolating the preparation for an IPO from the day-to-day running of the business is always a good idea and usually some sort of steering committee is formed involving the company advisers.
It is critical to develop an overall listing strategy, putting together a team of advisers in good time for the planned listing, and knowing how they will be involved.
Marketing of the float and shares is helped if the company and its products are already well known. An enhanced marketing communications program will assist with this, which can then be further developed into the listing communication program aimed at investors.
The one-off costs of going public often takes business owners by surprise, but are usually much less than the continuing cost of other capital raisings. There are also ongoing costs to take into account, such as exchange fees and increased reporting requirements.
Listing costs vary from business to business, depending on factors such as the business size and complexity, how much is to be raised, and the work that will need to be done to get the business IPO-ready.
The various fees involved are usually the largest single cost of an IPO and could be anything up to 10 percent, including fees payable to brokers, corporate advisor, lawyers, independent accountants and communications specialists.
Most companies engage a corporate advisor to help with any restructuring required before the listing, and provide independent advice areas such as pricing the IPO, its structure and terms. They could charge a retainer fee and success fee, which might involve taking shares in the company.
Depending on the business, there may be other independent reports required for the prospectus. For example, those with new technologies or new projects may need to address technical or commercial feasibility and support forecast assumptions made by management. Communications consultants are also often used, particularly to develop relationships with the financial media to encourage investor interest in the company as an attractive investment. As indicated, the communication program should start a long time before listing – the better known a company and its successes are before listing, the higher the potential premium.
There are a number of other costs to consider, including printing prospectuses, arranging insurance and stock exchange listing fee (which is based on the initial market capitalisation).
As well as ensuring all the costs and external regulatory and listing requirements can be met, there will be a number of internal issues that will need to be resolved. These may include:
1. Board structure. New directors are often needed. The board should be large enough to provide a variety of perspectives and skills, without being so large that its effectiveness as a decision-making body is reduced.
Under the ASX guidelines, a majority of the board – including the chairperson – should be independent ie not hold management positions in the company; represent substantial shareholders; or hold any business or other relationship which may interfere with their independent judgment. In practice, many smaller listed companies do not always comply; however, the appointment of suitably qualified independent directors can increase significantly the confidence of investors in the board and the rigour with which it conducts its supervisory role.
2. Internal changes. The transition to a public company may mean a quite dramatic shift is required in a business’s internal culture. For example, the disclosure requirements for listed companies demand a culture of transparency and a continuous process of reporting and recording that many organisations, and the owners, may find difficult at first.
However, public listing does offer many chances of strengthening management by attracting better qualified people because of the company’s public profile and cost effective remuneration packages that can more easily include share schemes.
3. Other exchanges. The Australian Securities Exchange (ASX) may be the biggest exchange in Australia, but it’s not the only one that businesses, and particularly small and medium sized enterprises (SMEs), should consider. And the ASX has very stringent requirements, which some SMEs may find onerous. For starters, the minimum number of shareholders is 500, with a holding valued at $2,000 each (or 400 shareholders at $2,000 each and 25 percent held by unrelated parties). The company must also have either $1 million in net profit over the last three years as well as $400,000 over the last 12 months, $2 million in net tangible assets, or $10 million market capitalisation.
Other exchanges have less strict requirements, which may better suit smaller organisations.
National Stock Exchange of Australia (NSX) specialises in small and medium sized company public listings, including community-based organisations. The NSX only requires a market capitalisation of $500,000, and a minimum of 50 shareholders (amongst other criteria).
The NSX also manages the Bendigo Stock Exchange (BSX) and the Wollongong Stock Exchange, which both focus on capital growth for regional business such as community banks or property trusts.
Australia Pacific Exchange (APX) is an exempt stock market, which means that businesses can have more flexibility on the structure of its shares.
It’s important to keep in mind, though, that simply meeting the minimum eligibility requirements does not in itself mean a business is suitable for an IPO. Generally companies should either be able to demonstrate a strong, sustainable track record of earnings growth or very high growth potential backed by a well-protected intellectual property. A business should also have a strong competitive position within a market segment and a clear strategic plan to deliver medium term growth.
Benefits of an IPO
Greater marketability. Shares in unlisted companies are usually illiquid, particularly for minority shareholders. Once listed, shareholders benefit from a readily accessible market for their shares, and can make decisions to buy, hold or sell shares independently of other shareholders.Increased market value. generally the value of a company increases significantly on a public listing. As a result of raising capital through an IPO, there are clear financial benefits to the owner, and to the business’s capital raising program in the future.
Mergers and acquisitions. Listed companies are more likely to have M&A opportunities brought to them. Shares can be used in such opportunities rather than cash borrowings.
Owner’s personal finance. Most business owners have the majority of their wealth tied up in the business. An IPO provides the opportunity to balance their reliance on their business with greater diversify of their wealth.
Access to long-term capital. In addition to funds raised through the IPO, listed companies have the opportunity to raise further funds through secondary raisings, such as rights issues and share placements.
Improved financial position. Funds raised may be used to increase a company’s cash reserves or reduce its net debt. The increased value of the company, and the transparency associated with being a listed company, can also help a company to negotiate more favourable terms with lenders.
Employee incentives. Quality staff can be attracted and retained through employee share schemes.
Brand recognition and profile. Listed companies enjoy an increased public profile through media coverage and analyst reports. Because listed companies are required to comply with rigorous disclosure and governance requirements, they have more credibility in the eyes of customers, suppliers and financiers.
* Tony Fittler is managing partner of HLB Mann Judd Sydney, an accountancy, business and financial planning firm.
