An initial public offer (“IPO”) is the offering of a company’s shares to investors for the first time, combined with a listing on an exchange where the shares can be traded. Although there are many types of IPO, depending on the investors sought and the exchange on which the shares are to be listed, the transactions follow a broadly similar process. The main steps are outlined below and key issues to be considered by management contemplating such an issue are highlighted.
Motivations to pursue an IPO vary from firm to firm. A company may be seeking additional funds for future growth or strategic investment; founder or private equity shareholders may want a route to realise the cash value of their holdings; or the company may be seeking the lower funding costs and broader investor base that a public listing can offer.
A decision to pursue an IPO should not be taken lightly. It is a complex and lengthy process which will absorb significant amounts of management time. There are costs associated with bringing the company to market, as well as ongoing fees stemming from the increased regulatory burden of being a publicly listed company. However, the benefits of significant additional funds and the step-change in moving to a publicly listed status mean that management often view an IPO as an important point in the development of a company.
Advisors
One of the first steps in an IPO is to appoint advisors.
- Investment banks. These will provide financial, procedural and market advice to the company. They may also commit to underwrite the offer, meaning that they will buy the shares from the company before selling them on to the market. The banks may, however, be reluctant to take such a liability onto their balance sheets (even for a short time), and the company may not want to pay the significant underwriting fees involved, and so a “best efforts” placing agreement may be preferred.
- Lawyers. The company, the investment bank and, often, the selling shareholders will have their own legal representation. A company’s lawyers will take the lead on preparing the offering document which discloses all relevant information about the company required by regulators and investors; managing any pre-IPO corporate restructure; and undertaking the legal due diligence on the issuer. The investment bank’s lawyers will lead on the underwriting/placing agreement and ensure that the bank and the company are complying with all necessary regulatory requirements.
- Accountants. These will undertake financial due diligence on the company and produce financial reports on the company. They will also assess the working capital position of the company to inform investors on the company’s viability post IPO.
Which market?
For companies seeking an equity listing in London, there are three main options.
- The London Stock Exchange’s (“LSE”) Main Market. This is the flagship market where many large multinational companies are listed. Within the Main Market companies can seek either Premium or Standard listings. A Premium listing has higher entry requirements and more onerous continuing obligations, however it offers a wide investor base and often a lower cost of funding. A company with a Standard listing has to accord to lower EU minimum regulations but does not qualify for inclusion in the FTSE UK indices (such as the FTSE 100 or 250).
- The LSE’s Alternative Investment Market (“AIM”). AIM is designed to be better suited to smaller companies due to its less onerous entry and ongoing regulatory requirements. However, AIM tends to offer less liquidity than the Main Market, which can make it more difficult for investors to trade. Equally, certain classes of institutional investors, such as pension funds, will not invest in AIM companies due to the perception of increased risk and the lower disclosure requirements.
- The PLUS Market. The PLUS market also caters for companies with a smaller market capitalisation. However, low levels of liquidity and an arguably lower profile than AIM has limited its appeal.
Preparing the company
The company needs to be able to satisfy the regulatory and market requirements for both offering shares to its chosen investors, and listing on its preferred exchange. These requirements stem from government regulators (in the UK, the Financial Services Authority (“FSA”)), the exchange itself and investors’ expectations.
The company and its advisors must prepare an offering document for investors and regulators. This detailed disclosure document must contain all information required by investors to make an informed decision as to whether to invest in the company. Different regulatory standards apply to its contents depending on the investors sought, the company concerned and the chosen exchange.
The document will take several weeks to prepare and will include a process of discussion, comment and amendment from all parties. Companies seeking a Main Market listing will need to have their offering document (in this case called a Prospectus) reviewed and approved by the FSA, a process which can take four to six weeks.
In parallel, the lawyers and accountants will undertake legal and financial due diligence. This will often highlight the need for certain steps to be taken before the IPO. For example, a review of material contracts may show change of control provisions requiring negotiation and amendment.
A private limited company seeking to list will need to convert to a public company with the associated legal and financial requirements. New constitutional documents will be drafted and adopted. Any shareholder agreements or similar arrangements are usually cancelled and replaced with lock-in agreements committing the management to the company for a fixed minimum time post IPO. The company’s management structure will be reviewed and non-executive directors appointed and formal corporate governance guidelines adopted.
Types of offer
There are several options to consider when seeking purchasers for the company’s shares.
- Private Placement. Blocks of shares are placed with a defined group of institutional and professional investors who are experienced in assessing the value and prospects of the company.
- Open Offer. Shares are offered to a broader range of investors who fulfil the requirements of financial promotion regulations as professional investors or high net worth individuals receiving appropriate advice.
- Retail Offer. Shares are offered to the public through an open subscription. A large number of small scale investors apply to subscribe to a small amount of shares each.
Smaller companies seeking an IPO will often rely on the investment bank’s contacts to target a group of investors with confirmed investment interest. Larger and better established companies may be more confident to approach the wider market.
Book building
Once the offering document is finalised two options are available.
- Pathfinder. A pathfinder document is published, containing all the information about the company except for the price at which the shares will be offered and the number of shares to be issued.
- Price range. Alternatively a price range document is published, indicating a range within which the shares will be priced.
Management will then undertake a marketing exercise managed by the investment bank which involves meeting and discussing the offer with potential investors on a roadshow. An assessment of demand will lead to the establishing of an exact price for the shares.
Admission
It can take several months of preparatory work before a company is ready for listing. If there is a real urgency, and no significant complications, this can be done in approximately three months, although four to six months is a more usual timetable. On the day of admission the shares are admitted to the exchange and to trading on the market.
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