Opportunities and Compromises
Ultimately, going public is no different for a company selling digital goods and services than it is for those selling physical widgets, insists Lise Buyer, principal and founder of the Class V Group, LLC near Palo Alto, Calif.
“Becoming a public company means understanding that you no longer own all of your business and, therefore, need to operate in ways that make sense for your previous stakeholders and your new investment partners-public shareholders. In return for cash, you have sold part of your business to these new shareholders and, therefore, have certain obligations on which you are either required or expected to deliver.”
These include regulatory requirements such as certain SEC filings and abiding by rules about dissemination of nonpublic material information, as well the expectation to deliver predictable or at least partially predictable results.
“When you’re a private company, you can tell your investors, look, we’re going to lose money these next few quarters because we’re going to dump a whole bunch of resources into this new product,” Wilhelm says. “When you become public, you have to show quarter-over-quarter and year-over-year profitability or face the wrath of the public markets. You have to change your regulatory and capital structure. People will ask about dividends. Your skirt will be open. When you’re private and you’re killing it in one market segment, you don’t have to tell anybody. But once you’re public, they can read your financial reports and say, damn, we should be making smartphones too. Going public is not a fun process, but it’s what companies often do when they reach a certain maturity level.”
The only reasons to go IPO today are to get a big stack of cash and a big burst of publicity, Wilhelm adds.
“Plus, it means you’ve arrived. It changes you from a little startup to something bigger,” says Enderle. Those advantages, however, may not outweigh the drawbacks of intense public scrutiny and other repercussions.
“Investors become a lot more short-term focused, and the relationship between the company and its users has the potential to change for the negative,” says Wilhelm.
Additionally, the onerous reporting requirements can take up to 20 points off your bottom line, depending on your size, according to Enderle. “You’re suddenly regulated, and that takes a lot of fun out of the job,” he adds. “You may have a lot less talented people. And the new owners of your company can do stupid things that change the dynamic of your business.”
Prior to Taking the IPO Plunge
Buyer recommends that DCCs ask tough questions before considering an IPO:
- Is your growth opportunity real and sustainable?
- Are your books in order and expenses controllable?
- Is your business strong and stable enough to operate under the public spotlight?
- Is the advantage you have in your market one that is difficult for others to replicate?
- Do you have the right people in the right roles to grow the company to the next level?
- Are your employees happy enough to stay put, and how can you keep their heads in the game in the years following an IPO?
- Do you have the people in place to comply with public requirements, including staff to help close the quarter efficiently; make sure reporting documents are filed correctly and on time; and help communicate with public investors?
“If I were to go public with a digital content company, I’d want to ensure that the timing was right. The company would have to be at a point where going public would actually allow me to expand my operations in some significant way that I couldn’t already do on my own,” says Allen Zuk, president and creative director for Clamour Creative, Inc. in Toronto. “Ultimately, I don’t think [DCCs] should grow too quickly, as this might hobble their ability to adapt to market growth and rapid technological change.”
For Wilhelm, the gold standard to meet is at least four consecutive quarters of growing profits prior to pursuing an initial public offering. “I would also want to keep expectations in line and insist on being treated as a real company, not a high-flying technology stock, because those expectations burn off pretty quick once you’re on the NASDAQ (or NYSE),” he says. “I’d want to be treated based on the fundamentals of my firm, because that’s the respect you’ve actually earned. Everything else is media hype.”
Additionally, Enderle says a prospective public company needs to ensure that it will be spot-on in its financial reporting and in the creation of its prospectus. “If you’re not truly compliant with reporting, (the IPO) is going to go pretty bad,” he says. “You also want to make sure everyone is aware of the requirements regarding disclosure and the blackout rules and blackout dates you have to abide by. You can’t talk to everybody when you want to, and there are things you can and can’t say.” Google’s founders, for example, found themselves in the SEC hot seat after they participated in a Playboy interview that published after Google had submitted the paperwork for its IPO in 2004.
Lastly, your company should have a clear idea of how much money it truly needs and what it plans to do with the cash infusion after it becomes public.
“The IPO itself can cause a distraction and make people forget they have a strategic purpose for doing this, which isn’t getting a brand new big office and gold-plated furniture,” says Enderle. “I’d want to make sure that my plan for the money was solid and that all my people were trained in the process and knew the risks of violating that process. And I’d get rid of anybody who might be a problem.”
Wilhelm predicts that we won’t be seeing a wave of DCCs announcing IPOs anytime soon, as the window on promising public launches for tech companies has slammed shut after Facebook’s attempt. “There’s a lot of market reticence right now to accept more (DCCs) into the public markets because of the struggles these tech companies have had,” he says. “I don’t think the market knows how to price them, and it makes investors worried.”