Structure and Ownership Research Log

0What are the benefits and drawbacks of public ownership?

Advantages of public ownership

Access of capital

The greatest benefit of public ownership is raising money. This is accomplished by the sale of stock in an initial public offering (IPO). Your stock can also provide compensation for either key employees or employees as a whole. For example Walmart’s associate purchase plan provides a match of 15% for purchases up to a stated amount each year. Employees with an ownership interest become more dedicated and company-oriented in their outlook.

Capital raised by an IPO can provide for growth, for acquisitions, pay off debt or provide funds for research and development. Later on if you require additional capital you can go back to the public with additional offerings. Public ownership is also good for society as a whole by providing funding to enable growing companies to create new jobs, help improve the standard of living as well as overall social conditions.

Higher valuation of the company
As a publicly owned company, the overall valuation of the company will increase for a number of reasons:

  • The additional liquidity achieved will add value by lessening the risk of cash flow shortfalls and problems servicing debt.
  • Assuming your success is ongoing, people will place a higher valuation because they will have much better and reliable insights into your financial and operating affairs.
  • There is a value placed on having a market valuation available at all times.

A higher company profile
Enterprise Rent-A-Car © is world-wide and has 65,000 employees but doesn’t have a big profile in the financial reporting community because it is privately owned. As a publicly owned company, furnishing financial results quarterly to the public, you now become newsworthy to the reporting media as well as your customers, suppliers and your important industry relationships.

Use stock as currency to acquire other companies
Your capacity to purchase other businesses will expand by either using cash proceeds from the sale of stock or by using the stock itself as currency. Using stock to make acquisitions is of special benefit when the public is placing a high valuation on your stock.

But be careful…in some cases the seller may want a provision to receive more stock in event of future declines in value. A famous example is the Denny’s Restaurants acquisition of Winchell’s Donuts. Over time Vern Winchell ended up controlling Denny’s after their stock declined.

You are a more attractive suitor for acquired companies
An owner that is considering selling you his or her business has spent a lifetime building the firm. There will be an emotional component as well as a monetary interest in evaluating how their life’s work is to be carried forward. As a publicly owned firm, you will have a higher level of appeal than a private firm. The owners of a selling company you acquire can be assured that your audited financials and provisions of SOX oversight will make for a stronger and more transparent future for their business.

Establish a public valuation of your company
A big problem as a private firm is that the value of your firm is unclear and subject to different perceived valuations. But as a publicly traded firm, the day to day valuation of the firm is clearly established by the market. But keep in mind that a poor valuation of your company would obviously not be an advantage.

Provide liquidity for the owners
A big drawback to private ownership is you can be asset rich and cash poor. It is not uncommon for business owners to live frugally for years while earnings are used build the business. Earnings go into the business rather than into their pockets. But the ownership of a publicly traded firm provides the owner liquidity to raise cash by sales of stock.

The stock will provide for stock option plans for key employees
As a public company you will be able to recruit and hold more highly qualified key employees by offering stock options. The company stock will not only bring you top management talent but stock option plans can be used to motivate employees as a whole. A key to Sam Walton’s success with Wal-Mart was stock options from the very outset which created a zeal of ownership at all levels.

Keep in mind that private companies can also implement stock option plans but the main difference is that it’s easier for employees to “cash out” when the stock is publicly traded.

Facilitate exit strategy
Public ownership of stock will provide both a valuation of the stock plus liquidity of ownership that make it much easier for your ultimate retirement as founder.

Disadvantages of public ownership

Your books will be open to the public and your competition

    • As a publicly owned company you will be required to keep shareholders informed about your operations, financial condition and any adverse circumstances. In doing so you will also be sharing your overall corporate mission and finances with your competitors. Your quarterly and annual report to the SEC is going to disclose comprehensive details of your company’s operation and performance. But not all your trade secrets are subject to disclosure. Your intellectual property and patents should be protected by patents and copyright. Your truly secret formulas and trade secrets can be withheld from public access, such as Coke’s © syrup formulation.
  • But the disclosures made as a public company also have advantages. Larger companies that may be interested in acquiring you will have assurance that you are providing a transparent and accurate database of information.

Higher accounting costs
Your accounting costs for at least two years prior to going public and while public will be substantially increased due to the requirements of audited financial statements and compliance with SOX. Your accounting department will need staff to prepare quarterly and annual financial information provided in formats required by the SEC and within their stringent timing requirements.

A majority of independent directors
Sarbanes-Oxley also requires that a majority of your board of directors be people from outside the company. Many potential board members have become more reluctant to join public boards because risks associated with government oversight of public companies and higher litigation risks. Compensation paid to board members has therefore escalated significantly.

Your ownership valuation will be subject to market fluctuations
Your ownership valuation is going to fluctuate with the stock market. There will be times that your company will be valued at higher than its intrinsic value and other times where it can be much below its true value.

You will lose some flexibility in operating your business
Confirming to state and federal securities laws, especially on occasions when you are required to get shareholder approval for your actions, will impose constraints not present when operating a privately owned business. In most instances however such restraints will be constructive in helping avoid business mistakes that could result without the restraints in place.


Leave a Reply

Fill in your details below or click an icon to log in: Logo

You are commenting using your account. Log Out /  Change )

Google+ photo

You are commenting using your Google+ account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )


Connecting to %s