3 Signs Your Business Should Consider an IPO

By Thursday Bram on 28 August 2010 (Updated 5 January 2011) 0 comments
Photo: starfotograf

The typical small business isn't about to hold an initial public offering (IPO) tomorrow, but it's important to think ahead if your long-term plans might include going public down the road, either as an exit strategy or as a way to raise capital for further growth. That can include identifying if — and when — your business should consider an IPO.

There's no company that is perfect for an IPO. The market fluctuates, making an IPO risky even for a company that seems perfect. But there are certain signs that a business may be a better fit than others. It's worth taking a closer look at the IPO process if your business has certain characteristics.

1. Healthy Growth

Christopher Chase is an investment backer with Morgan Joseph & Co. In his 25 years of experience with IPOs and similar transactions, he's found that healthy sales growth is a key to creating a situation where going public is worthwhile. Chase says, "For most IPO candidates, going public is an attractive option when the company has healthy sales growth and is solidly profitable."

Furthermore, that growth must be sustainable, according to Chase. "The company has to have a strategy that will drive revenue growth and profits after the IPO. The best new public companies have a clear idea of how they will grow their business, and understand that an IPO is not the end point, but the beginning."

It may seem obvious that investors aren't going to be interested in a company that isn't growing, but most investors look deeper than whether your sales figures keep going up. Most investors are interested in the long-haul and don't want to wind up investing in a company whose growth will peak, even if that peak is several years out.

As a stockholder in your own company, you likely have an interest in seeing that ongoing growth, as well. Chase points out that the business in question must also be able to continue to grow after an IPO for your own benefit. "Most investors insist that the owner keep his or her stake in the company for a 'lock-up' period after the IPO. So if the business does poorly after the offering, the owner suffers alongside the new shareholders."

2. Hands-Off Processes

The process of going public is incredibly intense, to the point you're guaranteed to have little time to devote to actually running the company while you work on an IPO. You have to have processes already in place that not only let you delegate responsibility but don't require you to direct that delegation. In particular, your sales need to proceed in line with current growth. Chase says, "The IPO process takes many months, so if revenue and profits falter, the owner may not be able to complete the offering." Not only do you need to have enough money coming in that you can easily complete the IPO process, but you also need to be confident that your company will continue to grow because investors will be looking at your numbers from both before and after you start the work necessary to go public.

Luckily, this is one facet of your company that you can plan from the ground floor up. Creating processes within your company that allow for a hands-off approach makes sense, whether or not you're considering going public in the future. It opens up a variety of options, including selling your company outright. It's a matter of putting standard policies in place that allow your employees to make the same decisions you would, without consulting you on every little thing. That can include adding to the training your employees receive and allowing them a degree of autonomy, but it also requires that you take a close look at the way you do business and codify it in written policies.

3. An Investment Story

Having a story that will win over investors is crucial. Many investors look beyond simple numbers and look for stories that convince them a company will boom in the years to come. Chase notes, "The owner should be convinced that the company has great prospects — an investment 'story' that will convince IPO investors that they will make money if they buy the stock."

An investment story doesn't necessarily need to be a story about you, the business owner. Even if you have a decided interest in making sure your company succeeds, both before and after an IPO, that's not always enough to convince an investor. The right story can be something as simple as a patent or another piece of intellectual property that will let you outpace the competition. But you have to have a way to stand out from the other companies considering an IPO.

Finding an investment story may be the last piece of the puzzle to fall into place, but it is truly necessary. Winning over investors is the entire point of an IPO and you must have the tools in place to do just that before you even start getting your paperwork in order.

When You Shouldn't Consider an IPO

As a small business owner, an IPO is likely not to be the optimal option for you today. It's something to work towards in certain situations, but the costs of going public are fairly prohibitive if your business' earnings are not in the millions. In fact, the figure of $100 million in market capitalization is routinely cited as a point where a business going public is actually likely to do quite well.

With that in mind, it's useful to step back from the IPO process if you don't see your business earning enough in the next several years. You can pave the way for an IPO as a long-term strategy, but if you're looking at going public as a way to raise capital in the short-term, it's important to consider other options.

Even if you have all three signs that your business should consider an IPO, you'll find that, in many situations, investment bankers and other professionals will recommend against an IPO. Between the cost and the difficulty of the process, you have to have a good reason, as well as a strategy, to move forward.

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