Deciding If and When You Should Go Public
With sales topping $30 million this year and the number of restaurants increasing to 11, the entrepreneurs who founded California Pizza Kitchen are thinking seriously about selling stock to the public. “Since day one, people have been after us to go public,” said Rick Rosenfield, co-founder of the 5-year-old gourmet pizza restaurant chain. “This is a natural public vehicle because it has a glamorous concept.” At this point, Rosenfield and his partner, Larry Flax, both former attorneys, have enough money to expand beyond the six states the company currently serves.
Down the road, they will need a huge infusion of funds to take the company national--and eventually international. But they are planning to wait for at least a year before opening the books of their Beverly Hills-based company to the Securities and Exchange Commission and the world.
Because most small-business owners initially borrow money from friends, relatives and private investors, they may be unsure about what it’s like to enter the public arena. There are investment bankers to choose and financial statements to prepare. The timing of the offering and pricing of the shares are also important issues to consider.
In 1982 and 1983, going public was the rage. Nearly every entrepreneur with a good idea was being courted by investment bankers desperate to discover the next hot moneymaker. This created a frenzy of initial public offerings, mostly in the high-tech, computer and biotechnology areas.
When the promises of fabulous returns on investment failed to materialize, the public’s interest in new companies began to wane. And after the October, 1987, stock market crash, investor interest in newly public companies plummeted.
But looking ahead toward the 1990s, investment bankers say investor interest is picking up, but this time in industries that weren’t popular in the early ‘80s.
“Ten years ago, everyone liked computers--right now, consumer products are very in,” said Hal Harrigian, director of corporate finance for Crowell, Weedon and Co., a Los Angeles-based investment banking firm.
Investment bankers also cite other businesses such as environmental cleanup services.
“There is no question that the sizzle and sex appeal of a company helps attract stockholders,” Harrigian added, “but after that it is the performance that counts.”
Investors are generally looking to invest in companies with annual growth rates of 15% to 50% a year to compensate for the risk of investing in new companies, which experience relatively high failure rates.
“Today, the IPO (initial public offering) market is increasingly selective and based on demonstrated performance,” said Quentin Lilly, an associate in Smith Barney, Harris Upham & Co.’s Los Angeles corporate finance group. “Before the 1987 crash, virtually everyone and anyone could get an initial public offering done.”
Jay Sherwood, managing director of Bateman Eichler, Hill Richards’ Los Angeles corporate finance group, said that although the volume of initial public offerings is down, he’s seen a dramatic improvement in the quality of the deals.
Sherwood said small companies with good technology, a strong niche in the marketplace and a financial track record can attract investors in the 1990s.
Once you have decided to take the plunge, finding the right investment banker to represent your company is critical. Your bankers not only must be skilled at executing the technical aspects of an initial public offering, but they also must have the credibility to market your company to the investment community.
You will be asked to help prepare an attractive and informative presentation to create awareness of your company on Wall Street. The presentation describes the products or services your firm offers, and it provides a company’s history, strategy and financial statements.
The timing of an initial public offering is critical. If the stock market is down or fluctuating wildly, it’s usually best to wait before entering the market.
Most initial public offerings are designed to raise $10 million or more, according to investment bankers. In most cases, one million shares is the minimum needed to create a viable, liquid market for your company’s stock.
According to Crowell, Weedon’s Harrigian, the offering price of the stock must be tailored to the potential investor. A range of $8 to $10 a share is a good target for retail investors, he said. Before setting the share price, the advisers will compare prices on the stocks of similar businesses.
Harrigian said that based on a hypothetical $10-million offering, a company should be prepared to spend as much as $300,000 on accounting, auditing and legal fees. The printing costs can run as high as $125,000 for the voluminous material required by the government and the stockbrokers who will be selling your stock.
Because potential investors require a detailed financial history of your firm, investment bankers suggest that even the smallest company should prepare audited financial statements from the beginning. These reports are very complicated and expensive to produce if they must be recreated from past records.
Small-business owners who relish their privacy should also consider the added pressures of life in a fishbowl. In addition to answering questions from shareholders and the financial press, there are strict government regulations that public companies must follow.
The SEC, which monitors all publicly traded companies, requires companies to file an annual financial report and statement of financial condition called a 10-K. Companies also need to file a quarterly financial report called a 10-Q. And any significant change, such as a resignation of a director or purchase of a major asset, must be submitted on an 8-Q form.
Even if you can handle the financial and technical aspects of going public, you must consider the emotional issues surrounding the loss of control. For many entrepreneurs, delegating power and authority is a major challenge. Being financially solid and growing is only one requirement for going public. You must also build a strong management team and create a well-respected outside board.
TIPS ON GOING PUBLIC
Here are some pointers from experts for those considering taking their small businesses public:
Spend the money to get audited financial statements.
Always launch an initial public offering from a position of strength. Don’t go public when you are desperate for money.
Seek the best possible professional advice.
Ask your legal and financial advisers if they might take stock instead of cash as payment for their services.
Make sure you are ready to relinquish management control of the company you have built.
Be prepared to deal with the public and government scrutiny of every aspect of your operation.
Make sure you are ready to focus on quarterly performance to satisfy your shareholders.
Hire an impressive management team and create the strongest possible outside board.
