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TECHNOLOGY COMPANIES – THE DECISION TO GO PUBLIC

By: Daniel Rothberg, Minden Gross LLP

Going Public

Often, new clients come to us having already decided that they want to go public. Before proceeding, we sit them down and discuss the advantages and disadvantages of going public to ensure that they are making an informed decision.

Advantages

Access to Capital

Emerging growth technology companies often have limited access to capital. The fact that their primary “assets” walk out the door at the end of every working day makes it very difficult to obtain financing from banks or other traditional sources. However, technology companies often need significant amounts of capital to maximize the development and/or marketing of their technology through an invariably limited window of opportunity. As a result, it is very difficult to build a technology company through cash flow - it is just too limited. The public markets allow technology companies with strong growth potential to raise the capital necessary to develop full speed ahead. Further, the principals of such companies will usually retain voting control subsequent to the initial public offering. Once the company is public, subsequent financings are easier as the company has a track record with investors and the securities regulators.

Profile

There is no question that taking a technology company public increases its profile. The increased profile assists the company in attracting investors, strategic partners, and customers. As people come to understand the company's product they will be much more likely to purchase its stock. People buy what they understand. Further, people often presume that public companies are more substantial than private companies.

Incentive Stock Options

High tax rates and cost of living and intense competition make it very difficult for technology companies to attract and retain experienced management and technical personnel. One partial solution to this problem is the granting of incentive stock options. Public emerging growth technology companies are often able to attract the people they need by providing them with a reasonable salary coupled with a substantial number of incentive stock options. These options grant the employee or consultant the right to buy a certain number of shares of the company at the market price of the shares at the date of the grant for a specified period. As the market price of the shares of the company (hopefully) climbs towards the heavens, the stock options become worth a significant amount of money.

Liquidity

A shareholder of a company that has gone public and listed its securities on a stock exchange or over-the-counter market can sell his or her shares through the public market. This is called liquidity. Prior to a company going public it is very difficult, if not impossible, for the shareholders to sell their shares. Being able to provide shareholders with liquidity makes it much easier to attract investment into the company, as the investors have a built-in exit strategy. Liquidity also gives the principals of the company the ability to cash out their equity position in the company.

Public Company Multiples

Public company shares are usually valued at a higher price than a comparative private company. This is because of the fact that there is an organized market through which the shares may be sold. This is usually referred to as the "public company multiple".

Acquisitions

In today's rapidly changing world, technology companies often have to grow quickly in order to survive. One method of achieving rapid growth is to grow by acquisition. Often the most expeditious way to deal with a competitor, or potential competitor, is to buy it. Public companies can use their stock, instead of their cash, to make acquisitions. This is sometimes referred to as using your stock as "currency". Further, the markets provide public companies with a ready valuation for their stock.

Disadvantages

Cost

Professional advisors, such as lawyers and accountants, must be extensively involved in the going public process in order for the company to avoid costly errors. The legal and accounting costs to carry out an initial public offering of a technology company can amount to $100,000 or more and it doesn't end there. Once a company is listed on an exchange, it must continue to retain professional advisors in order to ensure that it complies with the complex requirements of the securities regulatory regime.

Time Commitment

Prior to going public, technology companies are often achieving a high growth rate with a thin management structure. Everyone already has a great deal on their plate. The going public process requires a large commitment of management's time and energy and it takes management's focus off the company's core business. Once the company has carried out its initial public offering and listed its shares on an exchange, a portion of management's time will be taken up dealing with regulatory requirements and generating market interest in the company.

Regulatory Scrutiny

Junior listed companies are required to seek the prior consent of the stock exchange upon which their shares are listed before carrying out many common activities, such as issuing shares and acquiring assets. Most entrepreneurs find it frustrating to have to go to the time and expense of seeking consent to carry out activities that they previously undertook without the consent of third parties. This process is particularly difficult for technology companies that are in areas of business that are not readily understood by the securities regulators.

Disclosure Requirements

When a company carries out an initial public offering it must file with the regulatory authorities a prospectus containing full, true and plain disclosure of all material facts relating to the company. Many aspects of the company's business, such as its financial performance, the terms of its material contracts, and the compensation it pays its executives, become a matter of public record and accessible to its competitors. Further, the securities laws in Canada require public companies to publicly disclose any material change in their affairs, and their quarterly financial results, in order to ensure that investors have a sufficient level of disclosure to make investment decisions. This public disclosure of material changes as they occur can have a huge impact on a technology company's ability to compete against other private technology companies that are not forced to make such disclosure.

Investor Relations

While a public market for a company's shares provides a mechanism for valuing the company on a daily basis, a company's share price can become too much of a focal point. This can be a distraction for employees owning shares or options and can result in management decisions being made to focus on the short term to boost the share price rather than to strengthen the company in the long term. While a public listing may hold the promise of enhanced liquidity, it is up to the company to generate market demand for its shares. Companies that are listed on junior exchanges generally cannot attract the attention of analysts or the press and must seek assistance from investor relations experts or develop the expertise in-house. This kind of advice can be expensive and often does not result in immediate tangible results. This is also an area where unscrupulous players can seriously impact a company's credibility in the marketplace if they are not properly monitored by management.

Summary

Going public is not for every company. The directors of the company must weigh the advantages of going public against the disadvantages before making the decision to proceed to carry out an initial public offering.

 

For further information on the going public process, please feel free to contact Daniel Rothberg by telephone at (416) 369-4112 or by email at drothberg@mindengross.com.