When to Know to Take Your Company Public

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In an Initial Public Offering (“IPO”), a private company sells its stock to the public.  Companies usually use an IPO to raise capital so they can expand or to become a publicly traded company.  As a public company, its stock can be traded via a stock exchange.  One effect of this is that publicly traded companies often have many shareholders, whereas private companies might have only a few.  

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The primary advantage of becoming a publicly traded company is the ability to raise capital.  An initial public offering can raise millions of dollars for a company if it fetches a 100% or 500% increase on its stock offering price (e.g., if the company prices the stock at $7 per share, and it later sells for $50 per share).  Also, as the stock’s value increases, it becomes more “liquid,” enabling the investors to use it more like currency, in turn decreasing the need to use cash to obtain needed assets.  Going public will also create publicity for the company. 

Further, offering shares to the public allows the owners to retain the same management, whereas if the company sold securities to another business, that business might want to place some of its personnel on the board of directors.  Thus, issuing an IPO can enable the company to retain decision making authority over its business.  

But public companies are not more advantageous than privately held companies in every way.  Public companies must file quarterly and annual financial statements with the Securities and Exchange Commission.  The SEC in turn uses this information to ensure that the company is not defrauding or misleading investors into believing the company is worth more than it is in fact.

Going public requires companies to comply with many legal rules and can cost a large sum of money.  First, the company has to register with the SEC and await the SEC’s approval of its registration.  Completing a registration statement requires the company to compile many records, including bylaws, information about any litigation involving the company, board meeting records, and an array of personnel information.  It will then need to market itself to investors.  The company must employ underwriters to price its stock accurately so that the price will be high enough to raise money for the owners but low enough so traders will purchase it.  The legal, accounting, and underwriting costs, in addition to SEC filing fees, make the entire process quite expensive.  In 2007, for example, the average overall cost to complete an IPO totaled an average of $2.85 million.     

The company might have to hire additional employees to ensure that it complies with the legal rules that govern public companies.  Laws require the company to report certain transactions, management practices, and executive compensation, among other matters.  Further, this effort will require the company to keep better records, and in the process, the company’s operation will lose some flexibility. 

Finally, the extensive disclosure of business operation information can benefit competitors by providing information that allows other businesses to infer the company’s business strategies and the business’s strengths and weaknesses. 

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