What does it mean?
Floating a company – also known as ‘going public’ – is the legal process by which a company goes from being privately held to publicly held. The floating process culminates with a percentage of the company (in the form of shares) being made available for purchase by the general investing public on a public investment exchange (such as a stock exchange). This sale of stock which was previously privately held is called the Initial Public Offering (IPO).
In the UK the principal markets on which a company can choose to float are:
- Official List at the London Stock Exchange;
- Alternative Investment Market (AIM);
Going public is viewed by many as the epitome of financial success and reward. However, the decision to float a company must be carefully considered from both a business and legal perspective. Flotation is a complicated and costly process which, if it is to be successful, will require the appointment of independent legal and financial council and a dedicated IPO team.
Why go public?
To raise capital
Flotation provides broader access to the raising of capital for several reasons:
- The IPO itself generates a large amount of capital for the company. This is often a way of generating a return for those (owners, venture capitalist, etc.) who provided the initial capital. Becoming ‘liquid’ is a big reason for going public – investors need to get paid back.
- For private companies with debt, selling shares is a cheap source of capital because money is raised without incurring interest payments (as with loans etc.)
- Going public makes alternative sources of capital available. For instance, the public debt markets are more accessible to public companies than to companies without a listing.
- Going public generally improves a company’s debt to equity ratio and may enable it to borrow from more conventional sources (ie, banks) on better terms in the future.
- Equity based incentives – such as stock options and stock bonuses – have proven to be particularly good for attracting sought-after candidates to higher tier managerial positions.
- Press coverage of public companies is typically greater than that for private companies. This leads to increased public visibility. There is also significant prestige attached to being a publicly listed company, and a widespread conception that these companies are stronger and more substantial. This often helps to secure long-term customer and investor relationships.
Why not go public?
- High initial cost and recurring costs such as annual audit fees, increased PR fees and higher salaries for financial personnel.
- Length of process – typically 3-6 months but often over a year – which is likely to consume the attention of the management for long periods, potentially distracting them from other areas of business development.
- High levels of disclosure leading to information about any financial losses, criminal actions, lawsuits etc. being in the public domain.
- Pressure of the market – management will be under intense pressure to deliver results which may lead to focus on short-term rather than long term development.
- Liability – through lack of due diligence leading up to the IPO.
- Loss of control – outsiders are in a position to take control of corporate management, the company could be victim to a hostile takeover.
- Additional regulatory requirements – including having to publish full accounts twice a year, having to meet accepted standards of corporate governance, and ensuring that important news is promptly communicated to all investors.
- A company must comply with the legal and regulatory standards required of a public limited company. It needs to have the right legal structure – sole traders and partnerships can’t float, only companies. Public limited companies must have a minimum share capital of £50,000, a quarter of which must be paid in full before it starts trading.
- A Trading Certificate must be obtained from Companies House before the PLC can trade or borrow money. This certificate confirms that the company has met the share capital requirements.
- The company must have at least two directors and one secretary; the company’s secretary must have the qualifications set out in s 273 of the Companies Act 2006.
- The company must have an annual audit carried out by a qualified auditor, regardless of turnover.
- The company’s annual accounts and reports must comply with the generally accepted accounting principles of the London Stock Exchange (these are accepted as the standard regardless of which market the company is joining).
- The company must comply with the independent rules and regulations of the market which it joins. These are largely concerned with the conditions and processes for the trading of shares and are set down in each market’s rule book. Each market also has its own disciplinary body and set disciplinary procedures to be followed in the event of a breach of conduct by a member company.
One of the most important requirements of the flotation process is due diligence. A broad definition of due diligence is an investigation into the commercial activities and internal operations of a company which must happen before that company is involved in either an IPO or any kind of merger or acquisition, so that potential investors know exactly what they are buying into. Due diligence investigations are generally executed voluntarily by the company going public, but are a legal requirement to the extent that that company will be liable for failure to disclose any information deemed relevant once public.
Important due diligence steps include:
- Industry comparisons – analysis of data from similar public companies, industry trends etc. to assess growth rates and long terms outlooks.
- Disclosure of officer and director information including pay, share options and employment history.
- Having in place all legal documentation including articles of incorporation, charters, contracts, licenses, trademarks etc.
- Financial reports – annual reports, tax returns etc. must be assessed as must internal accounting practice. Due diligence must take into account the accounting systems capacity to meet regular public disclosure and present audited financial statements in accordance with regulatory and industry practices.
- Other business related documents including business plans, financial forecasts, agreements with key customers/partners/distributors and any insurance related documents must be reviewed