What does it mean when a company goes “public”?
A company goes public when it meets the public reporting standards set by the Securities and Exchange Commission (SEC). This includes selling privately held shares on a public market through an offering such as an Initial Public Offering (IPO), meeting the investor threshold for public reporting with the SEC, or voluntarily registering with the SEC to disclose certain business and financial information to the public.
When a company goes public by offering shares, privately held shares are traded on public markets for the first time and cease to be privately held. This process allows companies to raise capital that can be reinvested into the business. In return, the founder or existing owner relinquishes a portion of ownership in the company in exchange for this capital.
Becoming a public company, regardless of the method used, is a significant decision and requires a large amount of preparation. Once a company goes public, it is subject to stringent reporting requirements from regulatory bodies, as well as scrutiny from shareholders who now own a part of the company.
Reporting requirements for public companies include:
- Quarterly and annual financial statements.
- Significant events that shareholders need to be aware of.
- Proxy statements describing issues that shareholders can vote on.
- Disclosure of proposed mergers, acquisitions, and other transactions.
How do companies go public?
When a company decides to go public, there are several different methods it can use:
- IPO: The most common way for a company to go public is through an Initial Public Offering (IPO). The IPO process is lengthy, and after it, companies are subject to many stringent requirements. A typical IPO is executed over a period of six to twelve months.
- Direct Listing: A direct listing is a relatively new process that companies can use to become public and raise capital without doing an IPO. When a company goes public through a direct listing, it can bypass the traditional underwriting process.
- Reverse Merger: A reverse merger is a process where a private company merges with an already public company or merges with a special purpose acquisition company (SPAC). Some market participants believe this mechanism provides more certainty about pricing and control of deal terms compared to a traditional IPO.
Advantages and Disadvantages of Companies Going Public
Advantages:
- Increased Capital: Going public gives companies an influx of capital and liquidity to reinvest in the growth of the company.
- Increased Market Value: Companies often see an increase in their market value after going public due to increased transparency and liquidity. However, this is not true for every company that goes public.
- Increased Recognition and Reputation: Going public can increase visibility for the company, helping it to grow even more.
Disadvantages:
- Loss of Ownership and Control: When a company goes public, it loses some ownership to the public. Although the founder usually retains at least 50% ownership, they must still answer to a board of directors and shareholders.
- Cost of Going Public: Going public can be an expensive process. Although it will ultimately lead to increased capital, companies have to spend money on administrative costs, underwriting, and more beforehand.
- More Disclosure of Business and Financial Information: Once a company goes public, it is required to disclose much more business and financial information compared to a private company. Failing to do so can lead to action from the SEC.
- Accountability to Shareholders: When a private company performs poorly, the owner bears all financial losses. However, when a public company performs poorly, shareholders are the ones who may incur losses. Thus, publicly traded companies are subject to scrutiny from shareholders and the general public.
What
What does that mean for individual investors?
The public company presents a great opportunity for individual investors, as it is often the only way for them to invest in companies. Most investors are not participants in venture capital or other types of private funding. Instead, they buy publicly traded shares on the stock market.
There are generally two ways an individual investor can buy shares in a public company after it goes public. First, you can participate in the initial public offering and buy shares at the offering price directly from the company. For this to be possible, you typically must be a client of an underwriting institution participating in the IPO. Retail investors rarely get to participate in the IPO, as high net worth clients and institutional investors like mutual funds and pension funds receive more preference in the allocation of shares.
The other way to buy shares of a newly public company is to purchase them on the stock exchange after they are resold on the market following the IPO. In this case, you would simply buy the shares through your brokerage firm, just like purchasing any other securities.
Alternatives to going public
Going public may be one of the most common ways for companies to raise capital, but it is not the only option. There are other methods a company can use to obtain the necessary funding for growth without opening itself to public ownership. Here are three of the most common strategies:
- Venture capital: Many companies do not issue public shares until they are stable and have a proven business model. However, in the early years, some companies may still need funding to help them get off the ground. Even in later stages, some companies may simply not want to open themselves to public ownership. Instead, many companies rely on venture capital, a type of private financing where investors and venture capital firms invest in private companies, usually in exchange for an ownership stake. Venture capital is common among startups and tech companies.
- Reinvestment: As companies grow, they can reinvest their profits back into the business to help it expand. Reinvestment is beneficial because founders do not have to worry about giving up ownership in their company, and they do not have to incur debt to grow. However, reinvestment may not always be an option. Companies that are just starting out or those with slim profit margins may need to consider other options.
- Borrowing: Companies also use borrowing as a means to raise capital. There are two main ways that companies can borrow money. First, companies can borrow from banks just as individuals can take out a loan from a bank. But companies can also use a common strategy with government agencies known as bonds. Corporate bonds are a debt instrument that allows companies to borrow from investors.
Source: https://www.thebalancemoney.com/what-does-it-mean-when-a-company-goes-public-5180168
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