Have you heard of the phrase – the company went public?
What do you think ‘company went public‘ means?
Does it imply the ownership of the company shifted from private to public?
Yes! You are quite close to the concept.
Going public has a process, and it is extremely long-drawn. And that process has a special identity. It is called Initial Public Offering, aka IPO.
Small companies raise huge capital by going public and making their owners billionaires in no time. For example – Broadcast.com’s owner Mark Cuban. Or Yahoo’s founder, Jerry Yang.
However, one thing we should remember is that not all companies qualify for IPO. Yes, the stringent qualifications for plausible IPO filter out many otherwise promising ventures from the list.
Do you think the process is as simple as announcing ‘we are going public from tomorrow’?
So, let’s dive deeper into the concept, as most of you are not so familiar with the concept of companies going public. To begin with –
What’s an IPO?
As mentioned before, IPO or Initial Public Offering refers to the “process of offering shares of a private corporation to the public in a new stock issuance.”
With the issuance of public shares, a company can easily raise enough capital from public investors. This is very important for the growth of the venture.
A startup can draw so much capital from private and angel investors.
Often, a lack of sufficient capital hinders their ability to grow and expand beyond their chosen niche.
It is a very simple concept to understand.
A startup is launched with a focus on a specific area of business, the niche. But, gradually, with time, that niche is bound to get saturated. Even though the company enjoyed a monopoly market for a given period, other companies will be bound to explore that same niche if the monopoly player mints millions of dollars in profit.
Once the saturation point is reached, it becomes imperative for the company to expand its horizons and venture out into other niches, just as Amazon is doing. It follows a diversified business model and tries to retain its supremacy across varied niches.
So, if any venture needs to expand its horizon, they need capital in 6-7 figures or more. When they look for other investors, raising funds from public investors seems like a logical solution.
Well! This is not the only reason why companies go public.
What’s the Purpose of an IPO?
Now, in the world of big corporations and entrepreneurship, going public marks an important phase in a business’s development.
There are reasons why companies choose to open their doors to the public. The benefits are immense.
#Benefit 1: Gain Access to Public Funds
This point has been discussed earlier.
By going public, the company can not only gain immediate access to public capital to raise funds for financial expansion, but it also opens doors for the company to lay its hands on lump-sum capital in the future.
They can use the fund for expansion, mergers, and acquisitions. In short, companies can start building castles in the air (literally) with easy access to capital as and when required. There will be interested parties who would want to know how the capital was spent and the ROI.
These parties are the various stakeholders and stockholders.
So, you cannot use public capital for any other purpose other than what goes with the company.
You don’t want to get involved with such scams, right? Because your proceedings, decisions, and outcomes will always be monitored by interested parties, especially when you have gone public.
You might want to know – how. How do the public, stockholders, and stakeholders get such information?
Call it a downside of IPO.
Going public implies you are opening your company’s doors to the world. Yes! No longer will there be anything ‘private’ about your company. You have to get into the habit of sharing such crucial information about your company with the rest of the world.
Information like how you have used your capital, how much capital you have raised from the market, what has been the ROI, what is the current status of your balance sheet, what are your business strategies, what are your plans, what kind of business and marketing strategies you applied, how many acquisitions or mergers you are going to make, how much you spent on making an acquisition, and so on.
Practically, the whole world will come to know what is happening ‘behind closed doors.’ Or ‘not so closed doors.’
You see, there’s practically no ‘secret room’ left to hide your raised capital.
#Benefit 2: Increased Credibility & Exposure
This is one of the major upsides of filing an IPO.
This is one of the best ways to gain the trust of your companies. By releasing your company policies, objectives, visions, and goals of your venture, you are exposing your business to the public.
Why do you think big ventures release financial reports and CSR reports?
The public wants to know how ethically you are doing business.
If they plan to buy your company’s shares, they would want to know what your company’s market value is. Staying transparent about this information can help you gain the trust and confidence of your buyers and stockholders.
Going public and staying open about your company also increase your company’s credibility in the eyes of your potential investors and suppliers.
Your sound business policy will attract new customers and create new business opportunities too!
#Benefit 3: Gain Positive Public Valuation
Yes! The company’s major step helps its investors and founders cash out on their early investments.
But the major benefit the company enjoys is a chance to increase its market value. How?
Once your company has successfully won the trust and loyalty of its customers, the credibility of your suppliers, and enjoys product/service line diversity, the company will be in a much better position to file an IPO.
These factors mentioned above will positively reflect the Balance Sheet, aligning with the industry growth.
Eventually, your company’s valuation in the market will increase too!
A positive/strong market valuation opens doors for the company to consider future mergers and acquisitions.
This is happening all the time.
Every time you hear about companies entering into mergers, collaborative partnerships, or acquisitions of lesser-valued companies.
Why do you think companies do that all the time?
Growth and control over a wider market.
For example, “Amazon’s biggest acquisitions allowed the company to become the marketplace for nearly everything.” One of its biggest acquisitions had been Whole Foods, Zappos (shoe e-commerce giant), and Zoox (self-driving ride-share service).
Presently, Amazon’s market value stands at $314.9 billion.
Again as mentioned earlier, not all startups can opt for IPO. There are specific qualifiers. Let’s hear them out –
Prerequisites for IPO
According to Entrepreneur, “An IPO is also probably the most expensive way to raise money in terms of the amounts you have to lay out upfront.” And, its stringent prerequisites leave out most companies from the list. Why?
Well! Firstly, the company in question should have a good record of steadily growing sales and earnings.
Yes! The second requirement is that the same company should be performing in an industry that is currently booming or is in the news. Otherwise, the company’s market value will dip even though its Balance Sheet shows a stronger debit side.
And, last but not the least, the company should be able to show audited financial statements for the past couple of years or as many as mandated during filing an IPO.
Now, going public is not so rosy for the companies, especially for the founders. Again, why?
Here is the answer –
The Downside of IPO
#Downside 1: No Room for Internal Audits
As we mentioned, hiring external big audit firms has become a major prerequisite for filing an IPO.
It would help if you had a major accounting firm like Deloitte audit your financial statements and internal operations for several years before you can file for an IPO.
#Downside 2: Transfer of Ownership
Yes! This is something that will happen once you open your doors to the public.
You can expect outsiders to occupy seats on the Board or take more than a casual interest in the company’s proceedings, internal operations, and decisions.
A shift in ownership from private to public means a loss of control and management flexibility. All confidential information about the company, like the company’s strategy, capital structure, customers, products, competitors, profit margins, and employee compensation, will no longer remain confidential.
Also, the management will be accountable to external shareholders.
The latter will focus mostly on or emphasize short-term financial performances first. And a lot of other related or unrelated issues that might crop up post-transfer of ownership.
#Downside 3: Time Consuming & Expensive Process
Yes! The process is quite time-consuming and can cost the owner millions of dollars, if not billions.
For instance, staging an IPO might cost the company approximately “15 to 20 percent of the proceeds from the stock sale.”
On the other hand, the entire transition process might take nearly two years or more to complete.
This transition period will be quite challenging and expensive for the company. But, signing an IPO is for a greater cause, and the prospects are huge. So, companies take this challenging transition as the first step towards a brighter future.
Just like Amazon did! Or is still doing?
The bottom line is…
Being an entrepreneur and launching a startup is probably the easiest step compared to what follows during the growth and expansion years.
There will be challenges and hurdles, but the future will be bright if you stick along and survive. Do not allow those challenges and failures to undermine your determination to keep going.
If your courage falls short, then consider the example of Amazon. What that company has done and how it has grown from a mere virtual library and bookstore to one of the biggest conglomerates in the world.
So, always stay inspired.
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