An initial public offering or IPO is the most common way for companies to go public. Next to it, alternative methods have emerged, like special purpose acquisition companies (SPACs) and direct listing, nevertheless without reaching the numbers of IPOs: in 2022 there were 1,671 IPOs, compared to only 86 SPACs launched worldwide.
But regardless of its popularity, IPO remains a complex process that requires adequate preparation to avoid unexpected challenges and risks.
This article is meant to explore the most important steps to an IPO and give tips on how to execute the transition successfully.
What is an IPO?
An initial public offering (IPO), also known as a stock launch or going public, is a process through which a private company can raise equity capital by selling its shares to public investors for the first time.
What is an IPO process?
Usually, it is possible to distinguish two different phases: the pre-IPO and the post-IPO. Here are listed the main steps of each of them:
- Selecting an investment bank
Once a private company has decided to go public, one of the first steps the company has to take is to choose an investment bank. Investment bankers are meant to help the company through the underwriting process.
The underwriting process is fundamental in any IPO and consists of the evaluation of the risks associated with the IPO itself for the company and also for the investors. The underwriting is performed by investment bankers who help the company prepare for the IPO, taking into account aspects such as the amount of money that needs to be raised, the types of securities to be issued, and the agreement between the underwriter and the company itself.
- Setting the price
Once the IPO has been approved by the Securities and Exchange Commission (SEC), the issuing company and the underwriter establish the offer price (often IPOs are underpriced to increase the chances that is fully subscribed by public investors), the exact number of shares to be sold, and an official date for the launch of the IPO. The shares are sold to institutional investors, individual investors, and, sometimes, company employees. The IPO is now completed and shares are listed on a stock exchange.
- Market stabilization
After the initial issue, there is a period of stabilization. During that time frame, investment bankers are expected to provide the company with recommendations and analyses about the IPO status.
In the post-IPO, underwriters may impact the after-market stabilization of the IPO by, for example, buying additional shares at the offering price or below it (within a particular time frame), or influencing the price of the issue.
- Transition to market competition
SEC establishes a “quiet period” of 25 days after the IPO. Once the 25-day period lapses, it is finally possible for the underwriter to provide an estimation of the feedback of the market, and the earning and valuation of the issuing company.
How to prepare for an IPO: 10 steps to take
There are several essential steps in the IPO process that a private company should take to ensure a successful transition. Here are the most essential ones:
1. Create an internal IPO project management team
90% of institutional investors consider the quality of a senior management team the most important non-financial factor when preparing for an IPO. Thus, these should be experienced executives responsible for overseeing the company’s operations, strategy, and financial performance.
2. Create an IPO readiness assessment
The company’s financial, legal, and operational aspects are evaluated to ensure it’s prepared to enter the public markets.
3. Prepare for a public company board
One of the most important steps to going public is assessing the composition of the current board and identifying which board members will or will not remain after the transaction. Make any changes necessary to satisfy exchange listing and SEC requirements.
4. Hire the external IPO team
Key hires include an underwriter, a banker, an accounting firm, an audit firm, various legal counsels, and investor relations. Professional advisors will introduce you to the right prospective investment bankers, share their expertise to execute a successful IPO, and help achieve its long-term strategic goals.
5. Set the IPO timetable
External factors like market volatility and economic uncertainty can impact the IPO timing, so the underwriters should track the changes and advise when investors are likely to be receptive to new offerings. However, a company’s internal readiness is even more critical, and the IPO timetable shouldn’t be set until all necessary preparations are completed.
6. Conduct due diligence
IPO preparation involves conducting extensive due diligence on a company, including a thorough review of its legal and regulatory compliance, capitalization records, audited financial statements, material agreements, etc.
7. Prepare financial statements for the offering prospectus
The financial team or an expert in financial planning and analysis prepares financial data in accordance with accounting standards such as IFRS or GAAP financials. This is key information in the prospectus as it provides investors with a detailed view of the company’s financial performance and position.
8. Manage the filing process
The company files a registration statement with SEC, which describes the offering and the company’s business. The statement is subject to review and the company may need to revise it based on the SEC feedback.
9. Launch the investor roadshow
The investor roadshow is a series of meetings that the company has with potential investors in order to generate interest for the IPO. This is an opportunity for the company to meet its largest potential investors and for investors to ask questions they’re interested in.
10. Go public and deliver your promises
Being a public company, focus on beating the expectations that you set: meeting financial goals, attracting investors, building a strong reputation in the market, and implementing the best corporate governance practices. Also, submit annual reports in accordance with the SEC requirements.
Pros and cons of going public
As with any other business transaction, IPO has its advantages and disadvantages.
- Lower cost of capital. IPOs can potentially offer a lower cost of capital compared to alternative sources of financing (e.g. private equity investment or venture capital funding).
- Increased visibility and public image. IPOs attract customers, partners, and employees. When a company goes public, it reaches a lot of people obtaining a lot of publicity. Going public also improves a company’s credibility.
- Multiple financing opportunities. IPOs offer diverse financing opportunities such as equity, convertible debt, or cheaper bank loans.
- Exit opportunity. The company’s founders and early investors are not forced to participate in the IPO indefinitely. A common IPO exit strategy used by existing investors is to sell off their stake upon the IPO launch in return for cash profits.
- Diversification. The company’s existing shareholders are given the opportunity to diversify their investments. It has been noticed that the degree of diversification of the shareholders explains a significant (economically and statistically) part of the probability of going public, and may account for between one-third and one-half of the reported underpricing.
- Enhanced benchmarking operations. IPOs offer the issuing company a strong background to compete against other public companies from the same industry.
- Significant costs. POs can be extremely expensive. IPO transactions can have hidden costs associated with the legal and accounting aspects necessary to make it happen, such as hiring an underwriter, an investment bank, and an advertiser responsible for making the process smooth and seamless.
- Disclosure. To make an IPO possible, one of the main and essential prerequisites is to openly and publicly share sensitive and confidential financial and business information externally. Once a company goes public, its finances and other business data are available to anyone, even to potential competitors, and its operations are open to government and public scrutiny (e.g. SEC regulations). Audits are conducted periodically and reports are mandatory (every quarter and year). Lastly, the company is subject to shareholder suits.
- Less autonomy. Going public means for a company to be administered and run by a board of directors, which has limited autonomy being directly answerable to shareholders (rather than the CEO or president).
- Increased regulatory requirements. Issuing companies are obliged to comply with an ever-increasing set of regulatory requirements, such as financial reporting or corporate governance.
- Time- and effort-consuming tasks. IPOs are complex operations that require much attention and planning from the management team in all its phases. The amount of time an IPO needs depends on many factors, but typically, when everything is properly planned and organized, it might take from six to nine months.
- Risks. In any IPO, there is always an associated risk of not raising expected funding (hence the tendency to underprice the IPO).
- Ownership challenge. When the previous owners or shareholders will need to discuss the post-IPO plans or exit, they might be experiencing a feeling of losing control or ownership over the IPO.
What to consider when taking a company public
Here are 8 tips to follow to make your IPO plan a success:
- Internal financial controls
Have effective internal controls over financial reporting. Discuss any “material weaknesses” or “significant deficiencies” with your advisors to identify any potential issues and address them before filing your registration statement.
- Public communications
Standardize public communications and maintain consistency for external communications, including press releases, media interviews, and public appearances in which a potential IPO is discussed. Also, ensure that the information on your corporate website is accurate and current.
- Stock valuations
Hire an independent valuation expert that can provide an objective assessment of the company’s value for setting a realistic IPO price and attracting investors. Be aware that pre-IPO companies are advised to conduct valuations on a quarterly basis.
- Directors and officers (D&O) insurance
Obtain D&O insurance which will ensure your directors and officers are adequately protected during the IPO process, as when a company goes public, it becomes exposed to increased legal risks.
- Executive compensation
Consider hiring a compensation consultant to analyze your existing compensation practices, including equity and non-equity incentives, and ensure they’re competitive and comply with SEC regulations.
- Document confidentiality
Ensure internal document confidentiality and consult with your counsel on the process of seeking confidential treatment from the SEC.
- Sarbanes-Oxley Act (SOX)
Work with external auditors to ensure compliance with SOX requirements and strengthen investor confidence.
- Key metrics
Be able to effectively communicate the company’s key operating metrics, including customer acquisition costs, lifetime value of a customer, or monthly recurring revenue. This is important for public investors seeking companies with a strong growth strategy and potential for profitability.
Preparation for an IPO is a complex process that requires careful execution. Here are the most crucial success factors to consider:
- Create a strong internal project management team that will oversee the company’s operations, strategy, and financial performance
- Work with highly experienced advisors and underwriters able to assist in executing a successful IPO
- Consider the timing and market conditions when preparing to go public as they can greatly impact the success of an IPO
- Comply with accounting standards such as IFRS or GAAP when preparing financial statements
- Stick to the SEC rules and disclosure controls to ensure compliance.
IPO: Consideration stage white paper
iDeals created the IPO Consideration Stage white paper to support executives in evaluating if going public is the right strategic move for their company.
It covers aspects such as:
- The main responsibilities of the “IPO team”
- The cultural transformation needed for it
- Benefits of going public
- Main drawbacks and disadvantages
You can download it here.