The reasons to take a private business public are as diverse and varied as are the methods for getting there. Some wish to go public to appease investors looking to for an investment ROI. Others want to go public so as to use stock for mergers and acquisitions. Some execute an expensive IPO with a large investment bank, while others go public with the low-cost alternative of a reverse merger or self-filing. Regardless of the method or motivation for being public, the risks associated with public status are real. Before you take the plunge with an IPO, reverse merger or self-filing, be sure you fully consider and weigh all associated costs and risks. What follows is a brief description of a few (not all) of some of the potential pitfalls of taking your private company public.
Legal & Liability Risks
Public companies are always subject to more risk than private firms. Public firms are much more likely to be a defendant in a lawsuit and public companies are often targeted with even spurious suits that can cost thousands in attorney fees, not to mention the time and headache of going through the process.
Being a party in a lawsuit, especially if you’re a micro-cap company with a finite amount of time and capital resources, is the last thing a company with lean management wants to deal with. Management has a business to run. They don’t want to chase lawyers making spurious and libelous claims about your business. Public companies that have not been sued typically haven’t been around long enough.
Accounting & Reporting
The cost of becoming and maintaining public status has substantially increased over the last decade, thanks to fraud cases like Enron, WorldCom and a slew of corrupt Chinese reverse mergers. Sarbanes-Oxley compliance rules were the direct result of such cases. Gladly, the rules are a bit less stringent for those on some of the lower exchanges like those stocks traded Over the Counter (OTCQX & OTCQB). Even with such loosening, annual audit and SEC reporting requirements can be onerous without the right PCAOB audit firm in your back pocket. That is, one that can do quality work and won’t charge $100K a year. They’re out there, but you have to know where to look.
Exposure to Manipulation & Macro Shocks
Because other investors, pump-and-dump schemes and market manipulators have access to buy and sell your company’s stock in the open market, there is risk inherent in having securities in the public float. In a worst case scenario a company may be the recipient of a wholly illegal and drastically business-altering scheme wherein a promoter begins selling large quantities of the companies stock to help drive up the price, only to sell, sell, sell immediately thereafter, leaving the remaining shareholders with the bag. Luckily such schemes are strictly punished with fines and jail time, but they exist and are especially prevalent in the realm of penny stocks.
In addition to the occasional shifty investor relations firm, macro shocks in the financial markets can also have an impact on the business, more so when a company is public than when it is private. This is true, especially when you look at the wide fluctuations in a company’s stock during times of shock.
Access to Capital
Raising capital is easier when you’re public, but not as easy as most people think, especially for smaller firms. Sure Private Investments in Public Equity (PIPEs) can help, but you have to find and have access to the investors that may believe in your idea, business model and plan for growth in a way that makes them want to open their wallets. Businesses that think going public automatically graduates them into a world where capital access is unlimited are living a PIPE dream (pun intended).
Yes, “going public” sounds sexy on the surface, but with more power comes much more responsibility. If you think your business is ready for the big leagues, then suit up. Otherwise, it’s usually wise to take a back seat until you’ve built a great private company that’s primed and ready for a public showcase.