Should a Family Business Consider an IPO as an Exit Strategy?
There are a multitude of ways to realize ownership transition--some simple, some complex, some a safe bet and some full of risks. For the ambitious, successful family-owned company that wants to make it to the big leagues, an initial public offering (IPO) as its succession planning tool, though unusual, may be worth consideration. (For a quick overview of the pros and cons of IPOs, see this infographic). If your interest is piqued, here are some considerations for looking at an IPO.
First, you must have a true grasp of the disadvantages to this planning approach, because they are significant. Simply put, an IPO is not appropriate for every company or even for most companies. An owner must determine if the company has the appropriate size, sizzle, scalability and scope to go public. Self-assess which companies are your competition. Are these companies public? Are they advantaged in the market by being public? Do you have an attractive enough product or service for public trading? Do you have the time and substantial funds to enter into the public platform? And importantly, is this ambitious plan worthwhile for you and your company to endure?
A productive self-assessment brings up two important factors; planning and endurance. As scholar Frederick D. Lipman advises, an effective family business IPO requires advanced planning for an extended period of time before the anticipated IPO window opens. This sort of planning is multifaceted, such as obtaining audited financial statements, equity incentives for vital employees, and the owner’s own transferring of wealth to maximize valuation. If done correctly, each of these aspects might take years to execute, but will result in the ability to act fast if and when the fleeting IPO window opens.
Endurance is another major disadvantage when looking into an IPO exit strategy. Not only must the owner and company engage in careful planning for an extended period of time, but they must also comply with the laws and regulations of the Securities and Exchange Commission (SEC) and its state law counterparts at the time of registration and for as long as they are a public company. The regulations and disclosures required to register and maintain an IPO are burdensome and expensive. A company will generally need to make financial statements, data about products, and its key customers and vendors part of the public record through this process. Participating in the management of a public company means that the public shareholders and their representatives will be looking over your shoulder at every step. And there are significant limitations on the ability of major owners and management to freely sell their shares, even years after the IPO is completed.
If you’re still interested in considering being a public company, you’ll be pleased to understand the potential advantages of taking your family business public. The main benefit for a company to take this route is access to public capital and the ability to freely trade the company’s shares (subject to limitations under the law). While the owners might see this move as a partial exit strategy, the IPO is not designed to encourage flight by the senior shareholders. Gearing up for an IPO increases media interest in the business, which hopefully translates into public enthusiasm as a precursor for growth and the status of being traded on a public stock exchange. A public company has more options for raising additional capital than a private company, and the new resources can allow for debt repayment and strengthening of the company’s financial position.
Leaving a legacy to be proud of may leave you feeling warm on the inside, but don’t forget that the main objective is your ultimate exit. There are known instances where a gradual reduction in an owner’s stake in the company has afforded strategic payouts when they are most advantageous. An owner’s personal net worth can increase considerably as a result of a successful IPO, but ownership of stock in a public company affords estate planning benefits too. The liquidity of publicly traded stocks presents an opportunity to use proceeds to pay inheritance taxes and thus protect the rest of the owner’s estate.
There are many pros and cons to taking a family business public. You might want to review with your advisors whether that avenue is right for you.
Drew Steen is a business transactions attorney at Davis Wright Tremaine, LLP. He represents both buy-side and sell-side clients in mergers and acquisitions, venture capital investments, joint ventures, equity co-investments and restructurings. He also serves as regular corporate counsel for several closely-held and family-owned companies. Drew can be reached via email at andrewsteen@dwt.com or directly at 206.757.8081
Keith Baldwin is a business transactions and securities lawyer with a forty year history of serving clients’ legal needs. Keith focuses his practice on business relationships, including mergers and acquisitions, agreements among owner-entrepreneurs, and best practices for corporate governance. Keith can be reached via email at keithbaldwin@dwt.com or directly at 425.646.6133.