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The Ernst & Young LLP Guide To The IPO Value Journey, Stephen C. Blowers, Peter H. Griffith and Thomas L. Milan (John Wiley & Son, Inc. 1999) There is no formula or universal rule to determine whether a company is sufficiently large, mature, or profitable to go public. A review of recent successful offerings, however, can provide some useful generalizations about what investors look for in a newly public company. Size. Underwriters have their own rules of thumb – based primarily on revenues and net earnings - for what constitutes an adequate size to support a public offering. Today, however, size is often measured in terms of market capitalization or float. The phenomenal multiples of Internet companies have highlighted the importance of nonfinancial factors. A considerable number of IPOs have been Internet companies and other companies with minimal revenue, many of which have never shown a profit. These start-up companies normally have other attractions – such as an innovative new product with a potentially significant market and a proven management team – that compensate for the lack of a financial track record. Our research shows that more and more investors and bankers are looking at such criteria. Nevertheless, if your company appears to lack the size or the earnings to support a successful public offering, you have other avenues to explore. You might consider merging with another company in your industry that also is too small for an IPO. Such a merger could result in an amalgamated company whose combined assets, earnings, and management will make a public offering feasible. Growth. Underwriters and investors look for a record of consistently high growth, as well as a demonstrated potential for continuing that growth in the future (e.g., 15 to 25 percent per pear for the next several years). If the momentum is not there when the company goes public, investors will turn to more promising opportunities, and the offering may fizzle. Having an innovative product, a significant market share, or proven potential in a new market, and being part of an emerging industry all contribute to your real and perceived prospects for growth. Again, there are exceptions to the general rule. Profitability. Many successful IPO companies have a demonstrated track record of stable revenue and earnings. In exceptional cases where companies have excellent earnings trend lines, investors may trade off prospects for exceptional growth and price appreciation for lower risk and a reliable dividend stream. But there are no hard-and-fast rules. Each company must evaluate its present circumstances and its prospects, bearing in mind that few elements in the overall picture will impress the investor as much as momentum. Nevertheless, every year, start-up companies in "glamor" or "hot" industries go public. Many of these companies have never posted a profit; some have never even reported revenues. Although a perfect trend line is optimal, it certainly isn’t always necessary. Even mature companies with aberrations in their earnings trend lines have successfully executed their IPO strategies – particularly if the aberration was caused by some unusual, one-time, or non-recurring charge that is unlikely to have an impact on future operating results. In the final analysis, the critical success factor is not short-term earnings, but rather the ability to sustain your financial performance over the long term. Management. Underwriters and investors will carefully consider size, growth, and profitability in evaluating your company. But weakness in any of these areas will not necessarily preclude a public offering. The single issue on which underwriters and investors rarely will compromise is management strength. Strong management translates into the most important intangible element – investor confidence. Now is the time for your senior executives to analyze whether they can comfortably adjust to the public’s scrutiny of the company’s actions. Are they ready to cope with the requisite loss of freedom and privacy? Are they ready to admit outsiders to the decision-making process? Do they have the leadership capability to grow as the company grows? |
