Is Your Company Ready for an IPO?
Know the Key Factors of Success
Going public is one of the most significant milestones in a company’s history and often a great source of pride for its founders and employees. There are numerous reasons to undertake an Initial Public Offering, or IPO. Principally, an IPO allows the founders and other private investors a monetization option as well as additional capital for the company. A public listing on a stock exchange also provides a liquid market in which to sell any remaining stakes at a later date, as well as provide ready access to equity capital that might be needed to fund future growth initiatives. Also, the now tradable shares of the company can be used as income compensation to attract and retain top talent and as a currency with which to make acquisitions.
These reasons and others are compelling, but a company must meet certain criteria – not all of them regulatory in nature – if an IPO is to be successful; the recent failure of The We Company’s (WeWork) IPO is a recent and clear example of a private company that was not ready for the public equity market. Success means receiving a satisfactory price for the offered shares and the ability thereafter to maintain a market valuation that reflects the company’s economic value. The InspIR Group team has served as an investor relations advisor on numerous IPOs over many years and we have witnessed first-hand what makes these transactions successful. Some of the primary factors to consider when weighing an IPO include:
- Sufficient Management Experience and Strength of Leadership
- Performance Track Record that Demonstrates Growth Potential
- Ability to Withstand Exogenous Factors
- Clear Use of Offering Proceeds
- A Commitment to Transparency
- Rigorous Accounting / Reporting Systems and Internal Controls
- Sound Corporate Governance Standards
- Limited Price Overhang When Controlling Shareholders Remain
- Future Trading Liquidity and Free Float of Outstanding Shares
- Ability to Effectively Articulate Your Company’s Growth Story
Management Experience and Strength of Leadership
Leading up to an IPO, prospective institutional investors will meet with your management team – usually the CEO and CFO – to hear and learn first-hand the team’s strategy to grow your business over the near-, medium- and long-term. They will assess – through tone and body language – management’s conviction, as well as stress test the viability of the business model and strategy and management’s ability to effectively execute the strategy. Much of the credibility and trust that your management team will need to build with investors is also related to each executive’s experience in your company’s sector and how effective they have been in leading and operating it and other businesses. Investors will primarily focus on the strength of the companies’ financial and operating performance.
Performance Track Record that Demonstrates Growth Potential
To assess a company’s ability to grow and generate sufficient returns on the capital they would invest as participants in the IPO, investors will thoroughly analyze the company’s audited financial statements and make their own performance forecasts based on those statements and any operating metrics presented in the prospectus. Typically, they will focus on the company’s ability to drive revenue, earnings and cash flow over time under the growth strategy set by the management team. However, a company might not have sufficient revenue momentum and baseline profitability to attract a sufficient number of investors to support an IPO and the target offering price. This was partly the case with We Company, even prior to revelations that raised questions about the CEO’s ability to effectively lead a public company, among other investor concerns.
Some of the specific areas that investors will test and explore through their analysis are your company’s ability to gain market share, build operating scale, introduce new products, and enter adjacent markets, whether organically or in combination with acquisitions. Accordingly, they will also assess your company’s working capital and capex requirements, balance sheet strength, and ability to effectively manage financial risk.
Ability to Withstand Exogenous Factors
Emerging markets are frequently subjected to political and economic stress. Consequently, your company must have the ability to withstand exogenous factors that could periodically impede growth and seriously impact profitability. In addition to assessing the strength of your company’s balance sheet to weather conditions such as inflation, foreign exchange volatility and recessionary environments, investors will scrutinize management’s contingency plans for such scenarios. Apart from this, including dedicated emerging markets investors in the IPO allocation can provide longer-term support for your stock price during periods of uncertainty and volatility.
Clear Use of Offering Proceeds
For IPOs that also raise capital, management must present a clear and detailed plan for how the proceeds of the offering will be used to fund operations and grow the company. Investors will primarily focus on your company’s capital requirements related to the business model and growth strategy. If a secondary offering is anticipated, this should be clearly communicated and appropriately positioned, otherwise investors might develop undo concerns about future dilution of the shares they will receive through the initial offering. Following an IPO, investors will remember what you stated during the offering roadshow and thus monitor how you deploy the proceeds over time.
A Commitment to Transparency
Public companies must comply with relevant securities laws and the regulations of the stock exchange on which they are listed. Principally, these relate to reporting periodic financial results in a timely manner, as well as broadly and simultaneously across the investment community such that no investor would gain an unfair information advantage. Some companies choose to disclose more information than required, such as non-financial operating metrics, with the aim of helping investors and analysts assign a valuation that best approximates the earnings potential of these companies. Private companies, on the other hand, have no obligation to publicly reveal their financial and operating performance, information that can give competitors advantages, nor do they have the cost burden of public reporting.
For all these reasons, the founders and managers of some companies find it difficult to make the transition from a culture of privacy to one of transparency. Being transparent is particularly crucial when a company is performing poorly, has encountered setbacks, or is in distress; during these times, the natural tendency is to withdraw, focus on addressing the problems facing the company, and communicate less with shareholders and analysts. Discomfort with being transparent as a public company is one indication that an IPO might not be right for your company.
Rigorous Accounting / Reporting Systems and Internal Controls
Public companies must maintain sound accounting and reporting systems as well as rigorous internal controls, in order to fully comply with disclosure rules and regulations, among others. If a company fails to comply with these at any point in time, its officers and board directors could be held liable and its share price will likely decline. In other words, in addition to the incremental costs and time burden typically associated with the myriad legal and regulatory obligations of a public company, there is accompanying legal risk. The additional costs stem from the use of external accounting, auditing and legal services as well as personnel who handle these functions and investor relations internally.
Sound Corporate Governance Standards
Public companies are also subject to laws and regulations that also set stringent standards of corporate governance, depending on where they are listed. Examples include a board comprising a majority of directors who meet standards of independence, maintaining an independent audit committee, and the provision of tag-along rights for minority shareholders. Generally, those who own and manage private companies can operate under more liberal standards and with less board oversight. Also, the shares of public companies that do not maintain high governance standards can trade at a marked discount to peers, particularly those with majority voting power remaining in the hands of founding shareholders. Thus, in the absence of high standards, the price that public investors are willing to pay for a company’s shares might not meet the desired offering price.
Limited Price Overhang When Controlling Shareholders Remain
Investors will assess – and value a company accordingly – the pressure on a company’s shares that could result from any remaining controlling shareholders who could sell part or all of their stakes in the secondary market, following an IPO lock-up period. They will also attempt to assess the actual degree of control that founding shareholders who remain will exert. While minority shareholders may perceive their interests being aligned with a company’s founders who maintain significant or majority ownership, instances where the Chief Executive Officer has been hired externally and who is not given sufficient autonomy to run the business can be detrimental to performance.
Future Trading Liquidity and Free Float of Outstanding Shares
Whether some or all of a private company’s shares will be sold publicly, there must be sufficient trading liquidity in the secondary market. The investment charters of some investors also require a minimum market float of shares (the percentage of outstanding shares that can be traded in the secondary market), if all a company’s shares are not being publicly sold. Both conditions are often required by the largest investors, but often by others as well. Accordingly, this factor must be considered when assessing how many shares will be offered to the public and on which stock exchange to list.
Ability to Effectively Articulate Your Company’s Growth Story
As discussed above, during the offering roadshow, prospective investors will meet with you to discuss and assess your company’s growth strategy as well as gauge your confidence in successfully executing it. To convince them to participate in the offering and at the desired price for your company’s shares, you must effectively articulate what is known as your company’s “equity story.” This should not be underestimated among the success factors presented above. As Ben Horowitz, co-founder of Andreesen Horowitz, a renowned Silicon Valley venture capital firm, once said, «Companies that don’t have a clearly articulated story don’t have a clear and well thought-out strategy. The company story is the company strategy.»
Developing and refining your company’s equity story is where a highly experienced investor relations advisor can be vital to an IPO and during your lifetime as a public company. Investors literally have tens of thousands of public companies in which they can invest, and their attention spans are frequently short. Therefore, a sharply positioned and clearly defined investment proposition is crucial to marketing your company to investors, as part of an investor relations strategy to effectively compete for capital in today’s financial markets.
To learn about InspIR Group’s IPO Advisory practice, please visit our website at: inspirgroup.com/en/ipo-advisory/
InspIR’s IPO Advisory contacts:
Monique Skruzny – monique@inspirgroup.com
