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What Is the Procedure to Start a Public Company?

Updated on August 23, 2017

Going Public

Starting a public company is a complex and expensive undertaking. I will provide broad-based information, not to be relied on for legal advice. My purpose here is to give a general understanding of the steps involved in going public. This discussion is based on laws and practices of the United States. While the laws and procedures of other countries will certainly be different, the concepts are often similar.

Starting a public company (going public) means selling ownership shares to the public. The process is often referred to as an IPO (Initial Public Offering).

The process of going public or doing an IPO is regulated by the Securities and Exchange Commission (SEC). The SEC is an agency of the federal government which was created after the stock market abuses in the 1920s that lead in part to the Great Depression. The president and Congress wanted to set up rules and regulations that would protect the public from dishonest practices.

The first step of going public is to determine the amount of money you wish to raise. There are certain types of offerings which have special exemptions from the full blown registration process. An intrastate offering, where all the investors come from within one state, is exempt from the registration process. Offerings where the amount raised is less than one million dollars come under a special procedure which is far less complicated. There are also exemptions when the number of general investors is less than 35.

The consequences of raising money from the public without doing a complete registration statement are very severe, involving criminal penalties. You should never even think of being involved in an IPO unless there is adequate legal counsel knowledgeable in the securities arena.

Wall Street sign
Wall Street sign | Source

Investment Bankers

To go public, you need to have a business that offers growth potential. No one wants to invest in a business that does not have the potential to grow and prosper. And there are always eager investors waiting for the next Microsoft.

If you have a company that has exhibited strong financial growth, has a future that looks promising and has strong management, you have the opportunity to do an IPO. Just because you have a company that is capable of doing an IPO does not mean that you should do one. Going public totally changes the dynamics of a business. Being a public company means that the business must have a board of directors who are responsible for managing the company. All the transactions of the company must be transparent.

But if you have made the decision to go public, the first step in doing an IPO is to select an investment banker or investment banking group to handle the offering. Generally, you would interview many investment bankers to narrow the selection to those with whom you'd feel comfortable working.

The investment bankers will craft the company story so that they can sell the potential of the company to the investors. They will also work closely with the company, a law firm specializing in securities and an accounting firm to draft the registration statement. These documents are dry and sometimes scary reading. The purpose of the registration statement is to disclose all the material facts concerning the company. Failure to disclose any material fact is generally a violation of the Securities Act and can result in civil or legal proceedings.

Once the registration statement is near completion, the investment banker will arrange a "road show" where the company and the lead bankers will visit a number of potential investors to tell the story: why someone should buy the stock. The whole idea is to generate demand for the offering.

This is a rather tricky procedure. You can tell your story, but only parts of it. You cannot make projections about the future growth or profit of the company, and you cannot engage in publicity that would hype the stock.

Source

The Downside of Going Public

It seems like free money -- raising money from the public that doesn't have to be repaid. What could be better than that?

Well, there are two sides to every coin. On the plus side, you do get money that does not have to be repaid. You also now have publicly traded stock that is like currency in that it can be used to acquire additional companies. You know each and every day how the market values your company.

The down side is that you are now under a microscope with a ton of reporting requirements. The Sarbanes-Oxley act was passed after the demise of Enron, MCI and other corporate misdeeds in the late 90s. There is a new level of responsibility on the officers and directors of public companies.

In addition to those problems, unless you have a "hot stock", investors can lose interest in the stock and its price can dive and stay down. You will be straddled with tons of reporting requirements, some legal, some to just keep your stock in favor. It has been estimated that it can increase administrative cost for a small company as much as $500,000 per year just to handle the reporting requirements.

So while it's easy to see the positives, people often kid themselves about the downside of going public.

I suspect that this was more than you wanted to know about going public, but keep in mind that this is just an outline of the process.

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