Wednesday, July 1, 2009

A Primer on Going Public - Benefits and Drawbacks

There are three primary ways to go public: The Yellow Brick Road, The Self-Underwritten IPO, and The Reverse Merger into a Public Shell. The intent of this article is to briefly describe some of the benefits and drawbacks of each method.

The Yellow Brick Road

The traditional venture capital/underwritten IPO method is the hardest to accomplish, but is probably the fastest and will provide the most capital to your company. If you need $25 million or more in capital, this is probably the only method available to you. Obviously, the primary benefit to this method is the infusion of capital the company will receive.

Other benefits include having a lead venture capitalist "take you by the hand" and lead you to different funding groups, underwriters, lawyers and accountants, and the access they provide you to industry experts to advise you and sit on your board of directors. An additional benefit is likely a higher starting stock price, which potentially provides value to your shareholders, especially the non-affiliate shareholders.

As you might imagine, the major drawback of this method is the loss of control by the founding group. It is not uncommon for venture capital or private equity firms to own a majority interest in the company, and you may feel as though they are almost forcing you to use their service providers and advisers.

Yes, they spend lavishly wining and dining company management, and yes they are using your deal to return the favor of those who brought them their last deal, but those things come at a price, which is usually a large chunk of stock in your company.

Drawbacks aside, if you can go down the Yellow Brick Road, then "Do It," at least once in your lifetime.

The Self-Underwritten IPO and the Spin Out

A self-underwritten IPO, and the spin out, is analogous to being your own contractor for a bathroom remodel. You have to coordinate all the different parties and you have to take responsibility for the end result, but if you know what you are doing you can save a lot of money and have more control over the process and the end result.

The list of necessary parties is long. Lawyers, accountants, officers, directors, auditors, broker/dealers, market makers, finders, public relations firms, investor relations firms, insurance brokers, and a little bit of well-timed luck. Government or quasi-government agencies will include the Securities and Exchange Commission, FINRA, and state securities divisions.

This method may take from 9 months to over a year from start to finish, and during some of this time (the so-called Quiet Period) you will not be able to raise equity capital. Because you don't have a traditional underwriter to purchase your offering and guarantee a market, you have to develop a shareholder base of investors and you have to establish a market capitalization for your company.

Once you are public, because institutional funds and analysts will not follow your stock, you have to create the demand for your stock using public relations and investor relations firms. However, as stated above, at the end of a successful self-underwritten IPO, only you, and the investors you brought in along the way, own the stock of your publicly-traded company, as opposed to a large group of unknown shareholders as is the case with the other two methods described herein.

This is the method where our services prove most valuable. We do many self-underwritten IPO's every year, and as a result we have relationships with all the necessary parties listed above. As important, we can help you stay away from the many unscrupulous providers that lurk in this marketplace.

The Reverse Merger into a Public Shell

The primary benefit of a reverse merger, as compared to the two methods descried above, is time. Depending on the status of the public shell, a reverse merger transaction can be completed in between 60 and 120 days.

There are two major drawbacks, cost and risk. First, a reverse merger transaction has all the costs of a self-underwritten IPO, plus the cost of the shell itself. You still need all of the same service providers as outlined above, and one of the major pitfalls in a reverse merger transaction is to use advisers recommended by the shell provider who are loyal to that provider, not to you or your company.

The risks are many, and come from several different sources. First is contingent corporate liability that comes from the shell. This is creditors, employees, vendors, customers, shareholders, and other stakeholders who have a claim against the shell company but have not notified anybody because the shell has no assets, and thus pursuing their claim does not make economic sense.

However, once your company has been merged into the shell corporation, and your assets are available, their economic analysis may come to a different result. The second major area of risk is unscrupulous parties or providers. It is not uncommon for shareholders to hold stock in many different names so as to hide their true ownership, or for lawyers and consultants to have loyalty to the shell provider rather than your company.


This is a very brief overview of three alternative methods of going public. Before undertaking any of these strategies, consult with a securities lawyer who is experienced in this type of transaction, and educate yourself on the characteristics of each strategy.

By Brian A. Lebrecht

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